Financial Makeover: Rationalising assets

NAME: BARRY BROOKS: AGE: 57. OCCUPATION: FORMER PARTNER IN AN ADVERTISING AGENCY

BARRY WORKED in advertising until he was forced to retire seven years ago due to an accident. In his own words: "Being disabled is one thing, being poor and disabled isn't worth even thinking about."

As a result, he has worked extra hard at building up his financial assets and is now well off. But Barry feels his efforts, though successful, have been somewhat haphazard and he would like to bring some order to his affairs.

He is divorced with two sons and lives in London with his partner of 17 years, who has a daughter aged 30.

The adviser: Maddison Monetary Management, independent financial advisers (01753 701 002 or 01276 453 343).

The advice: Barry has a well-diversified portfolio, consisting of substantial share- holdings, unit and investment trusts, personal equity plans (PEPs), investment bonds, a Tessa, a small amount in venture capital trusts (VCTs) and cash in building society postal accounts.

With property included and no liabilities, his net worth is approximately pounds 1.4m.

As a rule of thumb, one should have in percentage terms an amount equal to one's age in interest-earning investments, with the balance being in equity investments.

Therefore, in Barry's case this would mean 57 per cent in interest-earning and 43 per cent in equities. The current balance is about 20 per cent and 80 per cent respectively. He may wish to do this over the next few years as opposed to one fell swoop.

This could be achieved by selling some of Barry's equity investments and reinvesting in more stable and secure fixed-interest securities or index-linked gilts, cash-based investments, short-term money markets or even cautious managed or with-profits funds within investment bonds.

Diversification could still be retained by using a company which has multiple fund management links, using external fund managers as well as their own to provide greater choice and flexibility.

Providers who fit this criteria include Sterling Assurance, (whose new Sterling Assurance Bond offers investment allocation of 103 per cent on investments over pounds 5,000), and Skandia Life, who have a range of bonds with access to 17 different fund managers.

However, this exercise would be classed as a sale and repurchase for Capital Gains Tax (CGT) purposes.

In the Chancellor's last Budget the rules on CGT were revised. Under the old rules one could revalue assets to be sold to allow for inflationary increases in value between acquisition and sale. For capital gains realised after April 5, 1998, indexation relief is allowed until that date and then a new scale of taper relief applies. This means an effective rate of tax of 24 per cent for higher-rate taxpayers and 13.8 per cent for basic-rate payers once assets have been held for the full ten years.

The other major change to CGT was the effective abolition of "bed and breakfasting", the practice of selling shares at the close of business one day and then buying them back at the start of business the next in order to realise gains up to the annual CGT exemption (currently pounds 6,800 per person per annum).

It is possible for one spouse to sell shares and the other spouse to buy them back the next day.

This would obviously only benefit married couples. An immediate gift back to the other spouse should be avoided as this would undoubtedly be viewed as tax avoidance.

At present, Barry's income consists of state benefits and income from a permanent health insurance (PHI) policy.

PHI is classed as unearned income and therefore cannot be used to base pension contributions on.

Barry should also look at how his situation might change at 65 when the PHI stops being paid. He has a deferred pension with Unilever, a deferred annuity plan and two personal pension plans.

While a divorce cancels any automatic rights of an ex-spouse, the claims process will be made much smoother by actually nominating the unmarried partner to receive the benefits.

Barry should also ensure that his personal pensions are written under trust.

Setting up a personal trust, by completing a simple form provided by the insurer, allows individuals to choose their own trustees, avoiding any probate delays and ensuring that his partner receives the fund value if Barry were to die before retirement, free of inheritance tax (IHT), as opposed to his estate receiving it.

This brings us on to Barry's will. With no planning so far, his estate would face an IHT liability of approximately pounds 600,000. If his intention is for his partner to be the main beneficiary then it may prove worthwhile to marry her and in the process save several hundred thousand pounds of IHT, as assets passing to a spouse are free of tax.

This is not the case with common-law spouses. If his partner were to accept his proposal of marriage, Barry could then consider utilising a discretionary will trust (DWT). Because this is a trust which does not come into effect until death, it allows the settlor of the trust to retain ownership and use of his assets during his or her own lifetime and allows the spouse to receive interest-free loans (repayable on her subsequent death) during her lifetime, thus providing ultimate flexibility and control.

This results in an IHT reduction of pounds 89,200, 40 per cent of the current nil-rate band of pounds 223,000.

Part of Barry's portfolio consists of a property in Tenerife. This would form part of his estate for IHT purposes as a worldwide asset.

He is considering putting the property in his son's name but if he retains any benefit of the property, including free holidays, then this would be classed by the Revenue as an interest in possession and deemed to remain part of his estate. This would also be classed as a potentially exempt transfer (PET) and if he were to die within seven years of making the gift then IHT would be payable, albeit on a tapering basis.

Setting up a trust could be created using annual gift exemptions or "gift and loan" type arrangements. However, if Barry were to give money or assets to his partner for her to utilise her annual exemptions this would also be classed as a PET, unless they were married when this would not be the case as spouse-to-spouse gifts are tax free. Any remaining liability could be covered through a life assurance plan written in trust to the beneficiaries. If Barry does marry this would be set up on a "joint life second death" basis, which is much cheaper than a single life plan.

This is because the payout is likely to be much later due to the probability that at least one partner will live to old age.

Competitive providers of this cover could include Legal & General, Allied Dunbar and Scottish Provident.