The UK government borrows most of its money as Gilt-Edged Securities or Gilts for short. Only a few issues are released each year and so, if you can find a list of them online, it is relatively easy to see what is available. Each one has an end date when cash is returned to the owner of the Gilt at a rate of £100 for each unit held.
A Gilt has two types of return for the investor, the income it produces and a gain if held until its end date. We are going to ignore the third (you could buy the Gilt and then sell it to someone else at a higher or lower price in the future) as it is not guaranteed, unlike the first two. We are also going to ignore Inflation-Linked Gilts and focus here on conventional Gilts.
- The income is stated in the name of the Gilt
- So, T27A 4.125% pays a 4.125% income.
- The gain is the difference between the current buying price and the £100 at end date.
- So, a Gilt on sale for 90p gives a 10p gain if held to its end date.
Where it gets interesting for higher rate taxpayers is that the gain on a Gilt is tax-free. So someone paying 40%/45%/60% rates of income tax might find a Gilt very interesting if there is a decent gap between the buying price and the £100 end date return. Fortunately, these Gilts tend to have a low income, which is good for these taxpayers as the income is taxable.
In the example of our 90p Gilt the gain is going to be 11% (10p divided by 90p). If the time left until the end date is 3 years, this is the equivalent of 3.7% per year return. On the face of it that doesn’t sound that good but when you take tax into account it becomes much more interesting.
- A 40% taxpayer would need a taxable gain of 6.2% to match this.
- A 45% taxpayer would need a taxable gain of 6.7% to match this.
- A 60% taxpayer would need a taxable gain of 9.25% to match this.
All of a sudden those returns from an investment backed by the UK government starts to look really attractive.
Most investors will own Gilts in some part of their portfolio, but they are usually held within fixed interest funds (the non-stockmarket part of the portfolio) which is less tax efficient than holding them direct.
The issue with directly investing into Gilts is their very attraction, you must hold them until their end date. This means that they are best used if you have large and fixed future outgoings. A large tax bill every January, a mortgage repayment date, school fees or house move are all good examples. If you have more than one of these, you can combine various Gilts into a Gilt Ladder so that the cash is available at the right times in the future to cover the known expenditures.
There aren’t many Gilt issues to choose from and so this is not a precise science. There are 3-4 available for most years but often only 1-2 with low incomes.
Investing in company shares is the best way to achieve long-term growth for your future but Gilts might have an important and specific role to play in your financial planning.
If you are a higher rate taxpayer with large future liabilities and your adviser hasn’t discussed Gilt with you, drop us a line.
We are advising clients about Gilt planning from our offices in Hook, Hampshire and nationwide.