Taxation is an important factor to consider when it comes to investing in Ireland. In this first of two articles that we will write on this theme, we’re going to broadly set out the taxation environment when investing. This will be followed by a second article that will consider how you might use this information to optimise your investments from a taxation perspective.
We want to state at the outset the importance and value of getting bespoke advice from a tax expert in relation to your specific circumstances, particularly when doing estate planning or if considering specific or complicated tax-driven investments.
At the end of the day, no-one likes paying taxes. However, there is some small comfort in recognising that having a higher potential tax bill is a sign that you are increasing your wealth, which is generally a good thing. At Acuvest, we also firmly believe that investments should firstly be assessed based on their underlying characteristics in terms of the potential return and associated risk, and how they fit into your overall investment strategy or financial plan. That said, maximising tax efficiency can be an important way of increasing your net returns, so the tax implications of any investment should also be considered once you have concluded that the investment is worthwhile and suitable for you.
The tax environment is complicated for investors in Ireland
One of the biggest challenges for investors in Ireland is understanding the different tax treatments of different investment structures. The following is just a snapshot of some of the main investment opportunities available to investors, and the tax rates that apply.
Bank Deposits
With interest rates on offer from Irish banks being so low today, the gains on deposits tend to be pretty meagre. However these are further eroded by Deposit Interest Retention Tax (DIRT) which is deducted at source at a rate of 33%.
Direct Shares
There are two taxation rates to consider when it comes to investing in shares. First of all, any income that is earned from a share portfolio is taxed as income and is also subject to Pay Related Social Insurance (PRSI) and Universal Social Charge (USC). For higher rate tax payers, this adds up to a tax take in excess of 50% of the income earned.
Any realised gains on a share portfolio are subject to Capital Gains Tax, which is charged at a rate of 33%.
Investment Funds
There are numerous different structures of collective investment funds available in Ireland, however the most common are Unit Linked Funds. These are typically offered by life assurance companies and fund management companies. All gains that an investor makes from these funds are subject to Exit Tax at a rate of 41%. This tax is deducted when an investor exits the fund, or the value / gains are assessed & liable for tax every 8 years, if not exited before then. This tax is quite “blunt”, as losses of one fund cannot be offset against another, or indeed losses on shares or property cannot be offset against gains made on these funds. Also, there is no consideration of an individual’s income tax rate and there are no minimum gain exemptions available. On the other hand, investments in funds do benefit from having gains roll up tax free for 8 years, irrespective of whatever diversification and rebalancing that takes place within the fund during that time.
It is also important to realise that there are other investment fund structures available that attract different tax treatments, such as certain non-EU Exchange Traded Funds (ETFs). These are taxed in the same way as Direct Shares. This opens up for example, the opportunity to utilise the annual CGT exemption and also the opportunity to offset any previous CGT losses.
Choosing the optimal investment fund structure takes careful consideration of a number of taxation perspectives, and we will consider these more in our follow-up article.
Specific tax driven investments (BES relief / film investments)
As we stated earlier, investors should give primary consideration to the investment fundamentals and potential. These “tax driven” investments are best left to experts and are often not particularly attractive investment propositions – typically they are high risk with low expected returns, as investors who are more focussed on the tax relief available don’t necessarily focus as much on the returns available or fees being paid within the investment. Investors should tread carefully and potentially take independent advice before investing, and need to remember to look at potential investment returns as well as the tax relief available.
Pre and Post Retirement Savings
Pension funds, and in particular Personal Retirement Savings Accounts (PRSAs) offer very attractive tax benefits, particularly to business owners. Significant amounts can be invested in these funds, attracting tax relief from Corporation Tax and/or Income Tax at a pension investor’s marginal rate.
These funds also grow free of any taxation, a significant and often under-appreciated advantage.
At retirement, a portion of the fund can be taken tax free, with the remainder being taxed as income. This is particularly beneficial if a retiree has minimal other income in retirement, resulting in a reduced income tax rate. If the pension fund is invested in an Approved Retirement Fund (ARF) after retirement, this opens up other tax implications and benefits.
We hope that this gives you a flavour of the complexity of taxation in relation to investing. In our next article, we will consider some of the strategies that might be considered to use the different tax treatments to your advantage. Within this, it is important to understand the difference between tax avoidance and tax evasion. The former is using legal tax minimisation strategies, while the latter is engaging in illegal practices. We only advise in relation to tax avoidance!
