One of my readers, Peter, liked my post (or its readers’ comments, more to the point!) about Jane and her £10m quality problem. He’s shared with me his attempt to find a new IFA. Below is his initial introduction email, suitably anonymised, to an IFA he’s been intro’d to.
Peter is very well informed about FIRE. He’s thoughtful and articulate, and lays out a pretty clear strategy.
I’d love comments on this blog about what you think of his approach. I will comment myself, below this post.
In the meantime, it’s over to Peter.
Below is a summary of my situation. I’d be interested to hear how you could help.
- I am 39 years old
- 4 children (all under the age of 10)
- I am not (yet) married
- I am UK domiciled and resident
My work background:
I have been an entrepreneur for well over 10 years.
My investment history over the last 5 years
When I had my big ‘pay day’ from my first business a few years ago, I immediately bought lots of property. Mostly residential. Total deployed was just under £8m in/around London.
At the time, I knew zero about ‘conventional’ investing. “Sharks trying to sell me something I don’t understand”, etc was how I saw it. Thankfully I didn’t fall into the trap of immediately putting it all into an offshore bond and all into high-fee funds (as suggested by the private bank who was trying to become my new best friend back then…)
I did what a lot of people do when they have zero understanding of ‘conventional’ investing and turn to property. The (flawed) logic being “you can touch it”, easy to understand it (or so I thought), you can gear it up with debt to accelerate gains, “you can’t lose in property”, etc.
Fast forward a few years and to cut a long story, I absolutely hate being a landlord. Even with a competent property management company, it’s a constant head ache, so many hidden fees which lower the return, ongoing damage to property, constant management required, a big time sink, etc.
I hate being a landlord so much, that I’ve taken the decision to sell everything (apart from my principal residence, which is debt-free but has significant running costs). Not only do I not want to be a landlord, but I also don’t want to own the assets long term. I don’t want to be trapped in the assets if I change my mind at a late date and there are large inflation-linked gains with CGT due on switching, etc…
So what now?
When all the property is sold, my aim is:
- to have a total of £10m re-invested into assets that can provide me a life-time income
- I have ‘normal’ living expenses of £300k per annum (4 kids private school fees, expensive ‘family life’, etc…).
- I believe my ‘bare bones’ (i.e. no holidays, etc) living expenses would drop to £150k-200k if need be in down years.
- I would like to achieve £300k per annum without ever touching the principal, and for the principal to grow with at least inflation over the long term (subject to volatility of course)
- Being relatively young, I have a very long time horizon (60 years, hopefully!) so eating into capital for multiple decades doesn’t feel wise
- I have a *very strong* preference for living off natural yield – rather than pushing for excess growth and selling capital. I don’t feel comfortable with that in principle – v.s. living off the natural yield and holding firm during any downturns.
- I anticipate having a £400k emergency cash (or very cash-like) buffer on top of the main investment pot, with which to make it through any prolonged years of dividend slashing periods. This is intended to be 2 years of ‘lean years’ expenditure.
- I don’t think bond/bond funds really work for me (at this present time) as:
- I have such a long time horizon (e.g. I’m not a typical late-life retiree and drawing down the capital)
- I see their capital values being greatly at risk when interest rates rise
- Yields are low
- Total return is unlikely to be able to deliver enough growth for the lifetime income I require, without eating into capital.
- I prefer a fire-and-forget strategy. Whilst I have read most of the personal finance and FIRE blogs back-to-back (e.g. Monevator, RIT, etc), I have to force myself to read them, rather than turning to them for enjoyment. This leads me to believe I want a very simple investing solution – both to deploy and ongoing.
As I see it, the main challenges I need to solve:
Q1) How do I achieve the investment returns I require?
For example, I need to achieve either:
- an income yield of 3% and pay zero tax.
- or 3.75% yield and 20% tax bill
- or somewhere in between
Of course, I would much rather achieve an income yield of 4% AND a tax bill of zero.
Regarding achieving a high income yield, I am very tempted to put all £10m into FTSE 100 trackers and be done with it. Logic:
- 3.7% yield (at today price)
- Reasonable global diversification (although sector risk)
- A fire-and-forget strategy
- Low fees to help long-term returns
- High natural yield at a ‘sensible’ valuation (v.s. US equities with low yield and toppy valuations)
- I’m not buying overseas when GBP is depressed (although UK equities are of course somewhat linked to currency due to overseas revenue)
Another appealing option is to maybe split this 50:50 with a 25 share portfolio (bluechips only).
Using UKValueInvestor‘s stock screen, if I filtered FTSE 100 both for Dividend Yield > 3%, and then take his top 25 (approx ever other stock in the top half of the FTSE 100) you end up with an average dividend yield of 4.7%. I intend manually to try to avoid value-traps too. If I split this strategy 50:50 with VUKE/ISF trackers, then I’d end up with blended dividend yield of 4.2% (at a healthy level).
I also feel both capital value volatility and sequence of returns risk is less relevant if living off natural yield? (as long as I can grin-and-bear a downturn).
How sensible (or crazy) is this strategy for all £10m?
I know we’ll debate a text-book globally diversified, balanced portfolio – re-balanced periodically. And I understand all the logic behind it. However, I find it hard to get my head around it due to all of the points above (my preference for living off natural yield, bonds values being at risk with interest rates rises, currency depressed so difficult to stomach over-seas investments, long term equity exposure needed, wanting more of a fire-and-forget strategy, etc).
This brings me onto my next point: Tax
Q2) What is the most efficient structure to own these assets in?
All of my ownership (apart from some small ISA amounts) will be outside of tax wrappers.
Personal ownership seems very expensive (due to the majority of income then being subject to income tax).
A FIC (Family Investment Company [Editor’s note: a limited company set up as a private investment company typically for one family]) would seem to be a sensible structure?
- I can loan my company £10m (via a Director’s loan):
- The FIC re-pays my loans (£300k per year – rising with inflation)
- My directors loans aren’t exhausted until, by my calculations, I’m over 65 years old (allowing for inflation)
- My company receives dividends tax free (as corporation tax is already paid by the issuing company)
- Assuming 4.0% dividend yield, there is an extra c.£80k per annum to re-invest (gross rollup) compared to if I held the assets personally
- Thereafter, I’m assuming I’m paying 35% dividend tax to withdraw funds, however because the gross roll-up has been building the investment pot, I can afford to now pay that level of tax without eating into capital
- Indexation relief can be applied if shares/funds ever need to be sold (i.e. inflation removed before calculating CGT)
- I can issue dividend-only shares to my future wife, children in the future, etc
Again, how crazy (or not) is this structure for 100% of my investments?
Logic would say don’t put all your eggs in one basket (i.e. own some personally and/or via similar vehicles?). I’m not yet clear on what other similar vehicles would look like.
The problem I have with personal ownership is that at some point I will start earning PAYE again, which even if I had £1m of assets owned personally (~£40,000 gross income), suddenly all of this would be pushed into the higher rate tax bracket.
I struggle to understand why a FIC is not perfectly suited given my requirement for mostly/all equities.
One issue I see with this is as time goes own, more and more asset ownership will be in the company, with less personal loan back to me remaining. This then makes borrowing more difficult for personal purchases (or similar) where I need/want the funds in my control.
Having said that, if I ever wanted to buy a 2nd home, I would likely want to run it as a minor ‘holiday rental’ property only, so the FIC could buy it? Alternatively, would there be some way of borrowing money personally secured on my shares in the FIC?
Other thoughts/points/questions that come to mind:
- I prefer ETFs (or at least anything that can be bought via Interactive Brokers). They offer margin finance as low as 0.5% over base, secured against the assets (e.g. if I wanted to borrow to buy a 2nd holiday rental home, I could borrow against the assets at a click of a button)
- REIT funds – presumably a source of higher yields. How do they work with corporation tax, etc in a FIC?
- How does corporation tax work if either bond funds and/or mixed funds which own bonds (e.g. Vanguard’s Life-strategy) are owned by a Ltd company/FIC? When calculating corporation tax, do you have to ‘look through’ the fund to understand the underlying assets and source of income? However, I don’t think most report in a way which makes this possible. It would be good to be able to read more about this/what is/isn’t subject to corporation tax, etc… (although material seems sparse on this online)
- When all directors loan repayments from a FIC are exhausted, are there other ways to unwind the Ltd company and/or remove funds tax efficiently? E.g. move offshore? (not desirable). Can I loan money out to myself personally for example, without punitive costs? Presumably the company could be liquidated which would result in a 20% personal CGT charge – as well as corporation tax to pay on realised gains (less indexation relief). If a future liquidation strategy is wise, should multiple FICs be set up at the outset, so I could stagger liquidations?
- It would be good to confirm if dividends from equities ETFs (e.g. VUKE/ISF) are definitely not subject to corporation tax?
That is very much a brain-dump of everything that’s on my mind at the moment. I’m sure there is lots more to cover and/or wider aspects to explore.