On the face of it, an investment in a fund has many advantages such as convenience and diversification. However, the Irish tax regime here can result in inefficiencies, which at the least would need to be understood before any investment decision is made.
For an Irish individual with excess money to invest then the choice usually comes down to equities, funds, or property.
Even from a tax perspective, equities and funds are often regarded as a lot simpler prospect than real property. While equity investments are indeed straightforward, funds can give rise to complications. There are many types – this needs to be identified for Irish tax purposes and is no way intuitive for foreign funds; these were not designed with Irish tax in mind. Different funds can have different tax impacts, depending on where domiciled, the regulation regime etc. The tax can often give rise to inefficiencies, so the impacts need to be properly understood upfront.
This article highlights the key tax considerations for equity and fund investments. The tax will need to be balanced with commercial objectives and the investor’s long-term plan – but to do this, first one needs to understand the tax.
Funds
A fund is an investment vehicle that pools an investor’s money with others and allows the investor to gain exposure to equities, bonds, property or other types of assets
The fund is generally exempt from tax on the profits it earns on behalf of its unit holders. Instead, those profits roll up within the investment undertaking and the tax point occurs at the level of the investor. There is a special tax regime for Irish investors in Irish funds and equivalent funds in other jurisdictions.
Shares and Funds – the key Irish tax differences
The following illustrates the Irish tax differences for an Investor for two common products – an investment in quoted equity or a regulated Irish or EU fund.
From an Irish tax perspective, the main drawbacks of a fund is the blanket 41% rate (compared to our CGT rate, or indeed the default income rates for lower rate taxpayers) and the restriction on use of losses.
Tax advantage of Funds (Irish/EU regulated or equivalent)
An advantage of funds is they generally offer gross roll up i.e. the income and gains can build up tax free in the fund and only taxed on exit. However, under Irish tax rules this is not indefinite and there is a deemed exit every 8 years so the investor is subject to at this point. The tax paid will be available as a credit against the tax due on the ultimate exit.
For any significant investment decision an investor needs to focus on overall taxes which should include the tax on the underlying investment and the taxes at fund level as well as the investor level. Even though a fund may be marketed as gross roll up, foreign withholding taxes may also apply. These can also have a significant impact and if possible, should be factored into any decision too.
When to proceed with Equity approach
From a tax perspective, then investment in equities will be preferred where:
The Investor (or spouse) has significant capital losses. These can be used to offset gains on equities – but are not permitted to offset gains on funds.
If the anticipated return will be asset growth, rather than dividends. This should be simple maths – dividends are taxable at 55% (for top rate taxpayer) and Capital Gains are 33%. The position can be different for lower rate taxpayers - though the bar for this in Ireland is relatively low with a 40% tax rate being triggered once annual income exceeds €35,300 for a single person.
The investor is a non domiciled Irish resident individual. Such individuals are generally only subject to Irish tax on Irish assets and foreign income/gains remitted to Ireland (known as the remittance basis). However, because foreign funds are taxed under a special regime in Ireland they may automatically be within the scope of Irish tax - irrespective of whether the proceeds are remitted or not.
Tax compliance - Funds
A significant advantage of regulated managed Irish funds is that tax compliance is the responsibility of the fund itself. The 8 year deemed exit tax is organized by the fund and the investor has no additional filing obligations here. This is in contrast with, say, regulated ETF’s (whether Irish or EU domiciled) as the investor themselves is responsible here.
For all non Irish funds, Irish tax compliance will be the responsibility of the investor. Full compliance is crucial as significant penalties can arise if obligations are not met. The tax trigger on 8 year deemed disposal can often be overlooked and needs to be tracked.
There are other products on the market such as unregulated funds – the Irish tax treatment will depend on their structure and domicile. Generally, an investment in such EU/US funds are treated as a direct investment with default tax treatment (same as equity above). Funds domiciled in countries which do not have a tax Treaty with Ireland can be subject to a different regime again. This can get very complicated and formal Irish Revenue guidance is limited. A separate tax analysis would be required for each fund, which may be costly especially if the capital investment is small.
However, once this analysis is performed then the tax compliance can be relatively simple. A tax point will only be triggered by reference to the units themselves. The investor does not need to concern themselves (for Irish compliance purposes) with the sales, dividends, fx movements etc within the fund. This is a key advantage of funds generally.
Considerations on Death (making a Will)
On death, a significant advantage of equities is that no Irish income or Capital Gains Tax applies. This is in contrast with funds which trigger an income tax charge. In all cases, inheritance tax, known as Irish Capital Acquisitions Tax (CAT) needs to be considered.
Most married couples usually provide in their Will that assets pass to the surviving spouse. Spousal transfers are exempt from CAT. On death of the surviving spouse, Irish CAT will then apply on transfer to the next generation, assuming tax free thresholds are fully utilized. For Funds held under a special tax regime, then generally an Irish income tax charge will arise on death, even where it passes to a spouse. Generally, such taxes can be offset against a recipient’s Irish CAT liability. So leaving such assets to the next generation, rather than a spouse, can mean that maximum tax relief will be claimed. A similar approach may also be considered where foreign taxes would arise on death as these are also offset against CAT.
Summary
For significant investments, the full tax impact needs to be considered and factored into any decision and projection model. Once the analysis is clear at the outset, then compliance obligations can be managed and dealt with as they arise.
