Blog #42- How ETFs Are Taxed Vs Shares & Retail Products

Blog #42- How ETFs Are Taxed Vs Shares & Retail Products

[Edit Jan 2018 - Please note the below was published prior to PRIIPS Regulation was introduced in EU in Jan 2018 which limited the availability of US Domiciled ETFs for Irish Investors]

 

This week we follow-up on our promise to share with you guys how ETFs are taxed here in Ireland. Like a lot of stuff these days there is a lot of info floating around about this topic, and if any of you have gone looking to get definitive answers it can prove quite tricky. We aim to bring several years of research to you in this episode, to answer most of the common questions that arise (and accept that we will naturally miss some of the less common stuff - who doesn't!).

Now this may help some of you, and it may not help, but understanding how you are taxed on your investment, pensions, savings or nest egg in Ireland is fairly vital in making informed money decisions...speaking of which please do pop over here to find out why we exist, what our purpose is and why we are Ireland's first Financial Planning & Wealth Management Blog & Podcast. Also, if you have any questions or comments we'd love to hear from you, just drop a message to us here.

In Blog 39 we took a fairly deep look at ETFs, how they work, how to buy them and what to look out for. We also raised a rather large flag to warn potential investors of the way in which 'the revenue' here in Ireland tax any income or gains you make on profits from these investment types. We are gonna address that now. We are not encouraging people to invest based on the tax treatment of something, that's never an informed decision, but we do believe it an important factor. First lets summarise the benefits & limitations of ETFs for Irish Investors:

Perceived Benefits (see blog 39):

  1. Offers a transparent means to invest in a broad range of companies with 1 'share'
  2. Potentially lower fees in comparison to shares and other retail investments
  3. Typically 'sellable' on the day you want to sell and get your cash back (liquid)
  4. Access to invest in large geographical areas (e.g US/Europe/Asia/Global)
  5. Easy means of diversifying your investment within shares/stocks

Perceived Limitations (see blog 39)

  1. Typically only investing in equities and not other asset classes
  2. Generally no volatility control in place - if it falls it falls - if it rises it rises
  3. Confusion over how they are taxed here in Ireland
  4. No physical proof of ownership - no share cert - all electronic/online
  5. Some ETFs are 'synthetic' - opening them up partially to potential default (counter-party risk)
  6. Lack of understanding of what they are and how easy they can be to own

Other Investments:

We have covered it before but if you were to buy shares directly in a company, such as Bank of Ireland or any other stock listed on the Irish Stock Exchange (ISEQ) then it is all fairly straightforward:

  1. Buy the shares through share dealer/broker (e.g Davy/GoodBody/IG etc etc)
  2. Pay Stamp Duty (1%) & all other expenses of dealer (dealer collects these)
  3. Get Share Certificate - you now own the shares
  4. Pay Annual Mgt Charge (typically 1-3% per annum) & 'other fees'
  5. If you get dividends you declare this and pay your margin rate of tax on that income
  6. When the time comes you sell the shares & pay your Capital Gains Tax of 33% on any growth you achieved (above €1,270 per annum)
  7. Bit Messy!

If you were instead to go and invest your money into a retail investment product, which a lot of the banks/brokers/agents sell, you are buying what is officially an 'Irish Insured Investment Fund'. These products offer you the option to easily invest into a variety of assets, depending on the fund it could be equities/ property/ commodities/ cash/ bonds or a combination of these. In this instance:

  1. Invest the money with advisor/broker/agent
  2. Pay 1% (Government Levy) upfront on the way in (same as with shares)
  3. Pay an annual management charge (typically 1.2%-2%)
  4. Do not receive dividends (if apply will usually be absorbed by fund manager)
  5. When you cash your policy in (sell) the growth is subject to a tax called 'Exit Tax' at 41% which is collected by the insurance company, you have no other returns to make
  6. It's simple!

How about combining the very best of both of these investments; it might look a little like this:

  1. Invest the money
  2. Pay zero upfront Tax/Levy
  3. Get paid Dividends and pay marginal rate of tax on them
  4. Pay a one transparent & low annual management fee
  5. When you sell your units you pay the lower tax rate of 33% Capital gains Tax

The great news is that this can sometimes be achieved with ETFs!

Revenue Guidelines on ETFs:

A revised revenue guideline can be found here. In summary this Revenue document outlines that if an Irish Resident invests in an ETF which is based (Domiciled) in a particular country or region, it is treated differently from a taxation perspective. This is due to Revenue determining whether they have similar structures & regulations as Irish funds. Different regions are therefore treated differently based on Revenue's assessment. Their guidelines (note they call them guidelines and not rules- one could only assume they are subject to review!!) are as follows:

 

Stamp Duty on
Purchase/Sale
41% or Margin Income
Tax on Dividends
PRSI/USC on
Dividends
41% Exit Tax
on Profit
CGT (33%) on Profit Deemed Disposal
(Taxable event every
8th anniversary)
Irish Domiciled ETFs No 41% No Yes No Yes
EU Domiciled ETFs No 41% No Yes No Yes
U.S/EEA/OECD Domiciled ETFs No Marginal (40% or 20%) Yes No Yes No

We have created this (hopefully) easy to understand chart based on the above Revenue guidelines, the guidelines which go to lengths to stress that they are guidelines only, and are subject to change...so you know yourself.....use with caution!

So What Is The Bottom Line With Taxation of ETFs In Ireland?

Based on the above you could go as far as to summarise as follows:

If investing in Irish Domiciled ETFs one will pay approx 41% tax on dividends & will pay 41% on overall gains. You will have to pay any tax due on growth every 8 years (even if not selling them). This inhibits on the potential compounding.

Similarly, if investing in non Irish EU Domiciled ETFs one will pay approx 41% tax on dividends & 41% on overall gains. Again, pay any tax on growth every 8 years.

However if investing in US Domiciled ETFs and one is a higher rate tax payer will pay approx 52% tax on dividends (40% income tax, 8% USC & 4% PRSI) but will pay only 33% on overall gains. No tax due on each 8th anniversary, only due on actual sale of assets.

And if one is lower income earner investing in U.S ETFs one will pay approx 28% (20% income tax, 4% USC averaged and 4% PRSI) tax on dividends and 33% on overall gains.

U.S Estate Tax Issue:

It should be highlighted that if you are investing in U.S Domiciled ETFs and your assets exceed $60,000, and your assets are to pass to your wife/husband/partner upon your death then technically these assets would be subject to US Estate Tax before they even get to you......Some question whether this would actually apply to your funds, but it is certainly another factor to be aware of!

How Do I Make A Tax Return on Shares/ETFs?:

If you do go the Share or ETF route you will, as outlined above, you will have some returns to make when you get dividends or indeed when you sell/dispose of some assets. This can be handled by an advisor or dealer but if you are open to learning a little then check out revenue website for info on how to complete a CG1 (if you don't usually make a return), a Form 12 (if you are a PAYE worker) or a Form 11 (if you are registered for Income Tax).

Bottom Line:

Many people are getting access to ETFs, seems a lot are not sure of the tax treatment of them, where they are domiciled or how that impacts on their circumstances. Again, it can be another really valid reason to do go this alone and to hire a credible advisor to assist you in your voyage. Either way we hope this episode has been an informative piece which will help you in making those informed financial decisions with your money!

If you felt this of worth then please do pass it to your friends or peers, or if you are really feeling inspired then please leave a review for us!

Thanks,

Paddy Delaney

QFA | RPA | APA | Qualified Coach

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