The Roadmap for Deemed Disposal

[Greenbook]

I know we are off-piste, but thank you for all the explainations. You have really helped me understand the background to all this.

The international norm is to tax dividends, either deemed or distributed, annually as income and realised gains as capital.

That looks like a sensible way of dealing with non-distributing Index Trackers. Why don't we just do this?

How are Irish Life Insurance companies involved in the DD? Do Irish Life Insurance companies have such influence on the Department of Finance that they have persuaded the Department for 20 years to create and main the apparently uniquely Irish DD? Do they create trackers like Vanguard and Blackrock do?

 

[Duke of Marmalade]

That looks like a sensible way of dealing with non-distributing Index Trackers. Why don't we just do this?

Good question.

Do Irish Life Insurance companies have such influence on the Department of Finance

It’s not they have great lobbying clout. After all they are subject to the unique 1% levy.
Historically they have dominated Irish retail investments. DD has its origins in the switch from Life companies being taxed internally to them being “gross roll up” with taxation deferred till exit. That needs DD to prevent indefinite tax deferral. It is not easy to unwind that as the Roadmap makes clear.
DD with a rational Exit Tax rate would be fine. CGT + 2% would be OK by me.

 

[Marc]

don't think its ever been definitively tested yet. Another poster who is a specialist tax adviser said that certain US dom ETFs that he had recomended to his client were also accepted by revenue during an audit. In other words they never challenged the categorisation of those ETFs as taxed under CGT which I thought was interesting.However the specialist would be able to stand over and defend it which an amateur retail guy probably would not be able to if revenue did challenge it. However even if you have a US based brokerage account like etrade and you are living in ireland you cannot buy US dom ETFs even on a US platform because of european documentation necessary, a popup window tells you that product is unavailable if you click buy.

I think this is referring to me so here is a quick summary of the Current state of play

I can and still do recommend US ETFS to clients (I use a discretionary investment manager) so that removes the need to provide a KID document that doesn’t exist.

Yes my clients have been filing on ROS for the best part of a decade without incident.

The main risk with US ETFs which I have written about ad nauseam is US Federal Estate tax which applies if you hold more than 60k in US assets (Apple, Microsoft, or US ETFs) then you have to pay Uncle Sam up to 40% when you die.

To get around this you can use a company but then you have those expenses to deal with.

To get around that we used to be able to use U.K. investment trusts but the FCA said that providers no longer need to provide a KID
Document and without it you are in the same place as with US ETFs not available to retail investors on most platforms.

So to get around that I’ve called in some favours from some U.K. asset managers and I have a limited supply of KIDs for some trusts.

So I can provide a fairly comprehensive suite of solutions to retail investors who have been shut out by all this and who want to invest under general tax principles.

Or we can continue to wait and see if this whole thing was just one big long nightmare…..

 

[Greenbook]

Thanks @Duke of Marmalade

I can see why you would need a DD with life insurance products. Otherwise presumably shares etc. would be being bought and sold within the policy to increase its value and tax might not be paid for decades.

But what is the connection between the passive Index Tracker provided by Blackrock or Ishares and the need (which I fully see) to ensure that life insurance products are fairly taxed?

 

[Zion2022]

It is not the concept that puts folks off it is the Exit Tax. It started at Standard rate + 3% and as an emergency measure it went to 41%. If it is reduced to CGT + 2% it is a reasonable proposition

Agree with everything except this. It is the operational overhead that is the problem for 95% of people. DD and monthly investing = nightmare. No lower rate will solve this - and a core principal of retail investing must be relative simplicity

For those smaller few happy to take on the operational burden and investing for the long term (like myself), CGT +2% would absolutely not be even close to tempting. The breakeven for me is certainly south of 25% given the lost compounding. I did calculate it before and think it was somewhere around 17-20% DD8 where I’d be willing to consider ETFs over UK investment trusts.

 

[Duke of Marmalade]

But what is the connection between the passive Index Tracker provided by Blackrock or Ishares and the need (which I fully see) to ensure that life insurance products are fairly taxed?

The buzzword is tax neutrality. If it quacks like a Life policy. It’s the accumulator nature that is the issue. Yes these should be taxed like Life products and distributors should be taxed like shares.

 

[Duke of Marmalade]

DD and monthly investing = nightmare. No lower rate will solve this - and a core principal of retail investing must be relative simplicity

I agree with you. I presume you are referring to lots of recurring style investments. Occasional lump sums isn’t a big deal. I remember I had profit sharing from my employer. Strict tax compliance would have been a nightmare. I put to Revenue a very broad brush approximation and they had no problem. Not satisfactory I agree.

 

[Greenbook]

The buzzword is tax neutrality. It’s the accumulator nature that is the issue. Yes these should be taxed like Life products and distributors should be taxed like shares.

Thank you very much for having the patience to explain all this to me. It is an awful lot clearer now.

Personally, I would think tax non-distributing Index Trackers like the UK on the dividends. Tax like shares on the capital side. They are passive trackers. Tax the distributing Index Trackers like shares.

Managed funds, life insurance products etc. the DD can stay in place but at a lower rate as you say than 38%. Maybe allow loss relief between these funds.

Very interesting that we seem to be the only country to use a DD on Index Trackers.

 

[Zion2022]

Strict tax compliance would have been a nightmare. I put to Revenue a very broad brush approximation and they had no problem.

I gather from previous posts that you are an actuary. I suspect what you consider ‘broad brush’ might be beyond the capabilities of the majority of the population .

 

[Fortune]

How are Irish Life Insurance companies involved in the DD?

DD was created for their products. It was slapped onto ETFs later.

 

[Greenbook]

DD was created for their products. It was slapped onto ETFs later.

Thanks, based on what @Duke of Marmalade very patiently explained to me that is the impression I got.

The core tax problem with ETFs, as @Duke of Marmalade explained, is that most reinvest the dividends. The amounts involved would often be quite small. A Nasdaq Index Tracker would yield about 1%. But the UK, for example, deals with that by deeming the investor to receive the dividends annually. The investor must then pay income tax on the deemed dividend.

That is much more sensible than the sledge hammer DD and solves the tax problem.

I wonder did whoever extended the DD to ETFs really understand what they were - passive index trackers. Did that person think that they are a species of managed fund - some manager is actively buying and selling shares to beat the index?

 

[Fortune]

I wonder did whoever extended the DD to ETFs really understand what they were - passive index trackers. Did that person think that they are a species of managed fund - some manager is actively buying and selling shares to beat the index?

I suspect they didn't care. They had two existing tax treatments, CGT and LAET, and felt the pooled investment nature of ETFs made them a closer fit for LAET. Use the existing rules, save everyone a lot of work.

As an aside, not all ETFs are passive; there are ETFs where the fund managers are actively trading to attempt to beat the market.

 

[Greenbook]

As an aside, not all ETFs are passive; there are ETFs where the fund managers are actively trading to attempt to beat the market.

I didn't realise that.

For the passive ones, the DD is a sledge hammer when the core tax problem seems to be that most Tracker ETFs, certainly the European ones, reinvest dividends.

Some companies will allow you to take shares in lieu of dividends. You just pay income tax on the amount of the dividend. Same thing as an ETF and no need to have a DD there.

 

[TomEdison]

I wonder did whoever extended the DD to ETFs really understand what they were - passive index trackers. Did that person think that they are a species of managed fund - some manager is actively buying and selling shares to beat the index?

I don't see why that would make any difference. The manager is entering into transactions in order to beat the index, or the manager is entering into transactions in order ot match the index. The tax consequences of a transaction rarely depend on your motivation or objectives in entering into it and I don;t see why they should here.

As fortune points out, not all ETFs are passively managed. Equally, not all life office products are actively managed. In both cases, passive versus active management is irrelevant when it comes to tax treatment.

 

[joe sod]

The buzzword is tax neutrality. If it quacks like a Life policy. It’s the accumulator nature that is the issue.

Or is the case that the life fund guys have priveledged access to the civil servants and get to quack alot with them in private away from prying eyes.

 

[joe sod]

The core tax problem with ETFs, as @Duke of Marmalade explained, is that most reinvest the dividends.

Thats actually not true as i was informed earlier, most etfs distribute their dividends and do not roll them up. Therefore the question is why were they not excluded from DD given that rolling up dividends is more niche than mainstream?
The whole rationale for DD was to get tax from funds and etfs that did not pay out dividends but that didn't apply to the majority of ETFs. Its amazing that this wasn't more robustly challenged.

 

[Greenbook]

I don't see why that would make any difference. The manager is entering into transactions in order to beat the index, or the manager is entering into transactions in order ot match the index. The tax consequences of a transaction rarely depend on your motivation or objectives in entering into it and I don;t see why they should here.

I've gone through this with @Duke of Marmalade who is an actuary and understands these things from his insurance company background. He very clearly explained how Index Trackers operate.

If I set up an Index Tracker, I just buy shares in the index in the proportions they make up the Index. Those share values just rise and fall with the Index. I don't do much except likely reinvest dividends and maybe deal at some point with a company being taken over or taken private.

Simple example - I set up an index of three companies, A, B and C, and I buy €100 worth of shares in each because that is the initial correct proportion. My Tracker is worth €300. Company A triples in value to €300. I don't do anything, but the Index Tracker is now worth €500 simply by the passive process of the increase in value. If company C halved in value to €50, it is the same thing but I've a fall in value, but I don't do anything.

This is different from an actively managed Fund. I might initially by €100 of A, B and C. But if I later decided that C was a sure bet, I'd sell A and B at a small profit let's say and reinvest the proceeds in C. That's a CGT event. I might later decide that C's run is coming to an end, so I sell half my holding at a large profit and reinvest the proceeds in a new sure thing D. Again, CGT.

 

[Duke of Marmalade]

I've gone through this with @Duke of Marmalade who is an actuary and understands these things from his insurance company background.

Oh dear, somewhere along the line I betrayed my guilty past. These days I am a Duke
There are two reasons why an accumulator ETF would be guilty of the "anti avoidance" that they talk about. The first and most prominent is the rollover of dividends and my understanding is that EU Tracker ETFs are of this accumulator variety.

The other reason is that sales under the wrapper would escape CGT. Almost by definition a passive fund should have less of these than an active fund.

To be sure, subjecting ETFs to the Life policy DD regime is a very crude instrument. Otherwise we wouldn't be having such a fuss. The option of going the UK route would seem to be blocked as tax neutrality would dictate that Life policies should follow suit.

 

[Duke of Marmalade]

Or is the case that the life fund guys have priveledged access to the civil servants and get to quack alot with them in private away from prying eyes.

Not at all (1% Levy)
If the powers that be decided that they must regulate how sliced bread should be packaged you can be sure they would want to have old man Brennan on side. Life policies have a very long history, partly inherited from our erstwhile masters.

 

[Greenbook]

To be sure, subjecting ETFs to the Life policy DD regime is a very crude instrument.

I think that is the essential point here. Where you have a passive tracker, especially a distributing one, the DD is a very crude instrument to prevent tax avoidance. A passive tracker will have to do some buying and selling but not much. The UK approach is much better.

I think the complaint is, as you say, not that some tax instrument must be used to prevent tax avoidance, it is that the one chosen is excessive where the fund is a passive tracker. It also discourages retail investors, for whom these Index Trackers were designed, from investing. Who wants the hassle and risk of an unpredictible tax bill every 8 years on a paper profit?