Compact Services

The main tax incentives for investment are:

• income tax deduction for amounts invested - the rebate is either at a fixed 20%/30% or at the taxpayer's marginal rate of tax (DED'N)
• tax exemption on the income from the source (EXINC)
• tax exemption on gains arising (EXGAIN)
• the ability to defer capital gains on other disposals until the new investment is sold (DEFER)

Note that no investment can recover tax credits on dividends received after 5/4/04.

The main types of tax-advantaged investments are:

ISA (individual savings account)

Contributions made to one 'Maxi-ISA' (max. £7,000 each year) or to separate 'Mini-ISAs' (max. £3,000 in the 'cash component', £3,000 in the 'share component', £1,000 in the 'life assurance component'). No restrictions on withdrawal. No relief for losses.

PEP (personal equity plan)

No new contributions can be made to PEPs after 5/4/99, but existing PEPs can continue with their tax advantages. No restriction on withdrawals, but money withdrawn cannot be reintroduced. No relief for losses.

VCT (venture capital trust)

Relief is for subscription for new share capital in approved VCT - a quoted company which invests in small, unquoted trading companies. The income tax relief becomes permanent if the shares are held for 5 years (3 years before 6/4/06), but gains (if any) are exempt immediately. No relief for losses. Income tax relief was at 40% up to 5.4.06. Limit £200,000 pa.

EIS (enterprise investment scheme)

Relief is for subscription for new share capital in small, unquoted trading companies. The income tax relief becomes permanent, and gains are exempt, if the shares are held for 3 years. Further relief available for losses on disposal. Maximum investment £400,000 per tax year (£200,000 up to 5/4/06).

PPP (personal/stakeholder pension plan)

Major rule changes from 6/4./2006: contribution limits are no longer based on percentage of "net relevant earnings" of the best of the current and last five years; also "carry back" of premiums to an earlier year has gone. The new rules will apply to existing policies and funds. The details of the contract with the pension company may vary, but they must be within the basic framework set down by tax law.

PPP premiums are paid net of basic rate tax. The policyholder pays 78% and the Revenue pay 22%. Higher rate relief is given where due by increasing the basic rate band in the tax computation.

While the money is held within the pension fund, it is exempt from taxes on income and gains, so it grows faster than funds held directly.

When the policyholder takes the benefits under the scheme, 25% of the accumulated fund can be drawn as a tax-free lump sum, and the balance is used to provide an income (which is taxable). The income can be a purchased annuity for life, or an "alternatively secured pension" in which the fund is still identified and produces the income which is paid to the pensioner.

Tax relief is due on an individual's gross contributions up to £3,600 (£2,808 net), or 100% of current year employed or self-employed earnings if higher, up to £215,000 (in 2006/07).

When a policyholder takes benefits, the capital value on which benefits are drawn (e.g. as a 25% tax-free lump sum) are measured against a "lifetime allowance" (£1.5m in 2006/07). If the lifetime allowance is exceeded, there is a clawback charge on the excess.

Employers can contribute up to £215,000 to employees' pension funds, less any contributions made by the individual. The employer can enjoy tax relief on the cost under the normal rules for trading expenses.

If a policyholder dies before taking any benefit under the scheme, the fund usually passes to dependants free of IHT. If death is during payment of benefits and a capital fund is payable to dependants, it is likely to be subject to IHT.