The Roadmap for Deemed Disposal

[Wolframius]

So, the S&P for example must remain at a particular size. If one company's shares increase in value, another company must leave the index to maintain the size of the S&P.

No, the S&P500 is always hovering around 500 companies, based on market cap and other criteria. If a company rise up in value and was not in the index, they will be considered for inclusion at the expense of another company that is not doing so well.

 

[Duke of Marmalade]

For example, you have three companies in on a stock exchange A, B and C. A and B have a market capitalisation of €1Billion and C has a market capitalisation of 0.9Billion. If A increases in size to €2 .1Billion, C must leave that stock exchange. Is that correct?

It is not about stock exchanges it is about the mathematical construct of indexes. The Dow Jones is the top 30, for example.

 

[Greenbook]

No, the S&P500 is always hovering around 500 companies, based on market cap and other criteria. If a company rise up in value and was not in the index, they will be considered for inclusion at the expense of another company that is not doing so well.

Thank you for explaining that. Another poster seemed to indicate that a company would leave the index because another company's shares increased in value. I must have mistook what they said. So a company whose shares decline in value will be replaced by a company from elsewhere whose shares have increased in value?

 

[Greenbook]

It is not about stock exchanges it is about the mathematical construct of indexes. The Dow Jones is the top 30, for example.

Thank you for clarifying that.

So if I set up a distributing passive index tracker with three companies A, B and C. A and B have a market capitalisation of €1Billion and C has a market capitalisation of 0.9Billion. If A increases in size to €2 .1Billion, C must leave that my distributing passive index tracker. Is that correct? Or would they all stay in place, but anyone who has bought my tracker is now better off because the units in my tracker will now sell for more?

 

[CharlieMac]

So without deemed disposal then ETFs are used as a vehicle for tax avoidance? Yet I can invest in Berkshire Hathaway shares, watch them grow for decades and see the CGT wiped out on my demise, but that's perfectly fine?

I have confirmed that BH is subject to US Corporation Tax (c. 20% ) on received dividends and realised capital gains. So what point are you making?

I think this is what @Djimi Traore meant:

That, in Ireland, if you invest in individually held shares and they go up in value, after your demise if you had never sold any of them, your estate pays 0% tax on that gain.

Whereas if you happened to invest in an ETF you have to pay tax on unrealized gains every 8 years, hampering your compounding, and then exit tax on your demise leaving a lot less to distribute to your estate.

 

[Duke of Marmalade]

That, in Ireland, if you invest in individually held shares and they go up in value, after your demise if you had never sold any of them, your estate pays 0% tax on that gain.

Djimi envisages it will be "decades" before his interview with Saint Peter. Meanwhile BH has ben paying c. 20% tax on all realised gains and received income. His heirs deserve to be spared CGT on top of CAT.

 

[Duke of Marmalade]

Or would they all stay in place, but anyone who has bought my tracker is now better off because the units in my tracker will now sell for more?

Yes to this. In danger of going seriously off piste.
The underlying assets are quoted on an Exchange.
An index is a mathematical construct which measures, say, the top 100 shares by market cap, or maybe the top 100 Oil shares, a constituency which is always changing around its bottom edge. The FTSE 100 of itself has no value but it represents a few trillion of share value.
A tracker is a fund which attempts to have its performance follow the performance of some index. The crudest way is replication (to always hold stocks in the same proportion as they are in the index) but that can rarely be done perfectly which leads to the concept of "tracker error".

 

[Greenbook]

Yes to this. In danger of going seriously off piste.

Yes, it is, but I think it is important to understand how passive index trackers work and where the tax avoidance is.

So, I could buy the top 10 shares in the FTSE 100 in an approximation of their current proportions in value of the overall stock exchange. I would now have a personal index tracker. I would be engaged in tax avoidance because the shares and thus my personal tracker would increase in value without my making any disposals. So I'd pay no tax. Is that correct?

 

[Connard]

I imagine they will aim to get rid of deemed disposal over a number of years. Reduce it a few times and then just get rid of it when it reaches the same rate as CGT. They do this with lots of things. Instead of doing it in one budget, they do it gradually over years. It is frustrating but I guess it gives them a nice news story for a few years instead of just a once off. I think the reason they skipped it this year is because of the new investment accounts and they are worried about them being seen as tax cuts for the rich. Doing one or the other will be seen as doing that, doing both doubly so. They are probably trying to minimise that.

 

[Duke of Marmalade]

Is that correct?

Nope!
The biggie are the dividends. Under the fund these are not taxed. In your DIY tracker they would be.
The secondary effect is that the passive tracker is constantly sewing up its bottom edge i.e. selling shares that fall out of the index. That does not mean these shares are at a loss. A share might last in an index for 10 years and on being surpassed by new kids will have to drop out but more than likely triggering a gain. But by construction not a very big gain in the overall picture.
It is the reinvestment of divies in accumulator funds (passive or otherwise) that amount to tax avoidance by the investor in the eyes of the Revenue.

 

[Duke of Marmalade]

Reduce it a few times and then just get rid of it when it reaches the same rate as CGT.

There is a slight chance it will reduce to CGT +2% this time round. It is about tax avoidance. If it is replaced it will need something like deemed annual income as applied in, say, the UK.
Deemed Disposal at 35% every 8 years is a good way better than 52% on Deemed Income annually. Be careful you do not get what you wish for.

 

[Connard]

Nope!
The biggie are the dividends. Under the fund these are not taxed. In your DIY tracker they would be.
The secondary effect is that the passive tracker is constantly sewing up its bottom edge i.e. selling shares that fall out of the index. That does not mean these shares are at a loss. A share might last in an index for 10 years and on being surpassed by new kids will have to drop out but possibly triggering a gain. But by definition not a very big gain in the overall picture. It is the reinvestment of divies in accumulator indexes (passive or otherwise) that amount to tax avoidance in the eyes of the Revenue.

Not just that but sometimes they also rebalance it based on market cap or other factors. E.g. if the smallest company grows faster than the rest and eventually becomes one of the larger companies they would sell shares of the other companies to buy more of it. All shares sold could still be at a profit.

I get where the logic is coming from that it is tax avoidance. The problem I have is that for a smaller investor, ETFs makes it much easier for you to diversify your investment. Deemed disposal and the tax rate punish you for buying them though. It pushes people away from them and into shares in individual companies which can lead to much more volatile returns. If that person bought into Apple years ago, great. If they bought a stinker that has dropped in value, not so great. Look at what happened with the banks share price after the crash. People invested in those shares lost a lot. If they had been in an ETF, they would have been much better off. Deemed disposal encourages people to avoid ETFs, which is the opposite of what we should be doing.

 

[Greenbook]

The biggie are the dividends. Under the fund these are not taxed. In your DIY tracker they would be.

I'm talking about a distributing fund. I have an ETF and I am paid dividends. Obviously different if the dividends are being rolled up.

So the tax avoidance is that they could have to sell shares they bought ten years ago because the company has dropped out of the index and they might make a gain on that. Do governments elsewhere tax the tracker on those gains or do they use DDs on the investors to deal with these gains and prevent tax avoidance?

 

[Greenbook]

Not just that but sometimes they also rebalance it based on market cap or other factors. E.g. if the smallest company grows faster than the rest and eventually becomes one of the larger companies they would sell shares of the other companies to buy more of it. All shares sold could still be at a profit

So for example, company A is worth 100, company B is worth 100, company C is worth 100. The tracker is worth 300 in total. Company C now triples in value to 300. The index is now worth 500, so they sell company A and company B to buy more shares in Company C? Is that how these things work? Is that passive tracking? I thought in that situation, the value of the tracker would increase to 500 by itself as it is tracking A, B and C

 

[Duke of Marmalade]

I'm talking about a distributing fund. I have an ETF and I am paid dividends. Obviously different if the dividends are being rolled up.

Yes I see now where you are coming from. Most passive funds track Total Return indexes, that is they reinvest the divies in the fund. i.e. they are accumulator ETFs.

 

[Duke of Marmalade]

Is that passive tracking?

No that is not passive tracking. The reason passive tracking can be delivered at such low costs is that by simply starting off with the correct balance by market cap it self adjusts as market caps change. The main housekeeping is around the bottom hem where stitches fray and have to be replaced.

 

[irishfinanceguy]

@joe sod that is extremely helpful thank you. Would the poster be willing to divulge which us ETF?
That is fantastic news! Apparently there are means to get access to us ETFS albeit it is not straight forward.
But the rewards are significant. Nevermind the investment scheme, this could be a new focus.
On reddit Irish personal finance I found this "Just don't but the "unit trust" US ETFs (so choose VOO instead of SPY, etc) and you're probably good. They are non-equivalent funds"

 

[Connard]

So for example, company A is worth 100, company B is worth 100, company C is worth 100. The tracker is worth 300 in total. Company C now triples in value to 300. The index is now worth 500, so they sell company A and company B to buy more shares in Company C? Is that how these things work? Is that passive tracking? I thought in that situation, the value of the tracker would increase to 500 by itself as it is tracking A, B and C

Yeah actually I think you are correct. It just balances itself.

 

[Wolframius]

Thank you for explaining that. Another poster seemed to indicate that a company would leave the index because another company's shares increased in value. I must have mistook what they said. So a company whose shares decline in value will be replaced by a company from elsewhere whose shares have increased in value?

The way I understand it is that market cap is one of the reason, but not the only one. Here's a list of all the changes to the companies in the index:

Historical components of the S&P 500 - Wikipedia

en.wikipedia.org

 

[TheJackal]

I'm assuming there will be no further reduction to the Exit Tax of 38% for Budget 2027 based on the lack of Deemed Disposal action in the Roadmap?