Professional Documents
Culture Documents
Module 1
UNIT 1
UNIT 1
INTRODUCTION TO
THE FINANCIAL SERVICES,
ENVIRONMENT & PRODUCTS
SECTION 1: THE UK FINANCIAL SERVICES INDUSTRY
MONEY (£££) :
Why use money?
1) Medium of exchange = Separate commodity to exchange for products
2) Unit of account (a/c) = Measure product value
Acceptable to
Sufficient all parties
in quantity
5 properties
Divides to small units
Of £££
Aim of Financial
Services Industry
1.1.1 Intermediation
(2)-(1)
Financial Intermediary e.g. banks & building
Intermediaries
societies (socs)
profit margin
(2) High IR Money lent to
charged
Maturity Borrower may need fund longer Most deposits are short term, whilst loans for
transformation than lender willing long term
(e.g. mortgages: 20-25yrs)
- range of deposit a/c – not all depositor
funds w/d at same time
Depositors
- UK central bank
(Federal Reserve – United States)
(European Central Bank – Europe)
2
1.
Makes funds available when banking system
Manage UK gold & foreign short of liquidity – maintain confidence
currency reserves for Treasury
Issuer of - Surplus …
bank notes BOE may lend out as part of its
Banker general
to debt management policy
Regulating banking sector
Functions government (gvt)
NOW: FSA (1/6/98) of BOE
Previously in
charge of
Banker
to banks
Managing new issues of gilt-edged Advisor
securities (gilts) to gvt All major banks have a/c at BOE for:
- deposit/obtain cash
NOW: Debt Mgt Office (Treasury) … - settling clearing
BOE avoids conflicts of settling IR - other transactions
… high influence on IR
Help formulate monetary policy (since 5/97) &
full responsibility for settling IR
Mutual Organisations
Not Co. ஃ no shareholders
Owned by members
Proportion of Member type
Some demutualised (i.e. became E.g. mutualisation
proprietary organisations)
Small With-profit policyholders
e.g. Norwich Union, Life assurance Co.
Standard Life Building society Fully
Since Building Society Act 1986 building soc could demutualise (convert into banks ஃ Ltd Co.)
- need approval by members
readily given as members get a high number of free shares
Problem: Carpet bagging = opening a/c in building soc to get subsequent shares
Solution: building soc protect long-term members by restricting opening of new a/c
1.2.2
1.2.3
Retail Banking
Common services (e.g. deposits, loans) to personal & corporate customers
Wholesale Banking
Raise money via wholesale money markets
where financial institutes & other large Co.s buy & sell financial assets
- Main difference between retail & wholesale banking was in size – NOW: less distinction
1.2.4 Money Transmission & Clearing Process
Cash
Branch Internet includes
method Cheque clearing
Direct debit
Automatic teller Telephone Credit &
machine (ATM) Standing electronic
orders transfers
ஃ New type a/c: simple, basic ஃ encourage more people to open a/c including those on:
pension state benefit
1.2.4
Level Effect
1st EU law Impact UK financials industry
1.3.2
1.3.3 Taxation
Raise revenue
Why tax?
Control money supply
- If gvt general tax … less £££ for investment & loan repayment
… less attractive for investors to invest
1.3.3
1.3.3.1
Country individual treats as home, even if they live for a time in another country
Domicile Domicile of origin = domicile of individuals father (or mother if unmarried) on date of their birth
Domicile of choice = change to different domicile
- Achieved by putting permanent roots in a different country & severing previous
Effects Domicile UK? Inheritance tax
Inheritance tax Yes (birth/live 17 of Any assets worldwide
previous 20 yrs in UK)
No Only on UK assets
= liability based on income received in a tax/fiscal year (6 Apr – 5 Apr next year)
Law made: new Finance Act (main law: Income & Corporation Taxes Act 1988)
R85 form – filled to declare individual (children & adults) does not need to pay tax & can
received interest from certain deposits gross, without tax deduction at source
- Children’s income from settlement by parents is treated as parents income for tax purposes
ஃ cannot set children’s unused allowance against this income
Income taxed NOT income taxed
Employment salary inc bonus, commission, Redundancy pay & other losses (unless >£30000
taxable benefits ஃ excess tax)
Pensions & retirement annuities Interest on National Savings Certificate
Profits from trade/profession Capital part of purchase life annuity
Tips ISAs & PEPs
Interest on banks & building soc deposits Gift Aid payments
Dividends from Co.s Proceeds qualifying life assurance policy
Income from trusts Gambling profits
Income from gvt & local authority stocks Lottery prizes
Rents & other land & property income Wedding presents & presents from employer
Value of benefits (if total income + benefits > Retirement & redundancy money
£8500) – (Co. cars – tax based on CO2
emission rating)
Education grants to full time students
War widow pension
Some social security benefits
Housing grants
Interest on tax rebate
1.3.3.2.1 Allowances
(2009/’10) £6,475
£9,490 – people >65+ yrs
£9,640 – people >75+ yrs
For people >65yrs with income exceeding specific figure (£22,900 - ’09/10), personal allowance
reduces £1 every £2 income over threshold (not reduce below under-65 allowance)
E.g. 1 Married man aged 30 earns £20,000pa E.g. 2 A single woman aged 40 earns £50,000pa
(’09/’10) building society income, & no other (’09/’10). She is employed and has personal
income. His has a personal allowance of £6,475 allowance of £6475
Gross income: £50,000
Gross income: £20,000
Personal allowance: £6,475
Personal allowance: £6,475
Taxable income: £43,525 (50000-6475)
Taxable income: £13,525 (20000-6475)
£2,440 at 10% £244 (2440*0.1)
£2,440 at 10%: £244 (2440*0.1)
£34,960 (37400-2440) at 20%: £6,992 (34960*0.2)
£11,085 (13525-2440) at 20%: £2,217 (11085*0.2)
£6,125 (43525-37400) at 40%: £2,450
Total taxable: £2461 (244+2217)
Total taxable: £9,686
(244+6992+2450)
- Most investment income taxed at source at basic rate: 20%
Net rate
Gross rate =
0.8 (100%-20%)
Net rate
Gross rate =
0.9
1.3.3.2.2 Employees
- Income tax paid via pay-as-you-earn (PAYE) system
– employers calc using tables by HM Revenue & Customs (HMRC)
How calc?
Employers supplied with tax code number for each employee
Total Revenue - total expenses - Capital allowance => Income tax paid to HMRC
based on net profits
- Self-assessment rules: taxpayer calculate own liability & sends it to the tax authorities for approval
/Accountant/HMRC
1.3.3.2.4 Classification of Type of Income
Now:
Income Tax (Earnings Income Tax (Trading &
& Pensions) Act 2003 Other Income) Act 2005
Covers incomes in
Covers income previous in Schedule E: other schedules
- Employment income
- Pensions
- Taxable social security benefits
Part 2 Part 3 Part 4
- HMRC collects income tax at source from person making payment, not the recipient
- Investors premium paid to Co.s life fund which given to different assets e.g. property, shares
- Basic rate tax on income (e.g. dividend, gilt interest, rental income)
- 20% capital gains tax(CGT) on profit when fund sold
- taxed at source
2) Premium in 1 yr must not exceed twice the premium in any other yr or 1/8 of
total premiums payable
- Exempt from CGT, although unit holder maybe liable if sell at profit
1.3.3.3 National Insurance (NI)
Class Rate
1 - 11% on earnings between primary threshold (£110/wk (’09/’10)) to upper limit (£840/wk (’09/’10))
- Reduced level of 1% on earnings above upper limit
- Employers pay 12.8% on employees earning above lower limit = secondary threshold
(£110/wk (’09/’10)) – but no upper limit
- Lower contribution if employees contracted out of state 2nd pension (S2P)
2 - Self-employed flat rate £2.40/wk- if profit exceed lower threshold (£5,075/wk (’09/’10))
- Paid monthly direct debit
3 - Voluntary contributions by people who otherwise not allowed full basic pension or
sickness benefits (e.g. career break, working abroad)
- Flat rate £12.05/wk (’09/’10)
4 - Additional contribution by self-employed in annual profits between minimum & maximum level
- Paid to HMRC ½-yearly with income tax
- Rate: 8% profits between £5,715 - £43,875 + 1% profits > £43,875
1.3.3.4 Capital Gains Tax (CGT)
= paid on net gain on disposal of physical & financial assts inc shares, unit trust
- How?
1st: Offset loss against gains in the year the loss occurred
Then: Residual loss maybe carried forward to future
years
But capital loss can not be carried back to a previous year
- Tax payable on net gains in tax year
(after deducting allowable capital losses in same/previous year)
- Capital loss can be carried forward but annual exemption can not
ஃ losses brought forward to extent required to reduce gain to level of annual exemption
1) Costs of purchase can be added to the purchase price, & selling costs deducted from sale price
2) Cost of improvements to assets can be treated as part of purchase price (not incl.
maintenance & repair cost)
3) Capital gains before 31/3/82 have different tax – value on 31/2/82 substituted for actual purchase price
- Low rate of 10% on the first £1million of cumulative gains from disposal of trading businesses &
shares = Entrepreneur’s relief
To claim this relief: individual must own at least 5% of ordinary share capital of the
business (most property letting businesses are exempt from this relief)
E.g. Vanessa brought £50,000 units in unit trust ( May’04) & sold for £80,000 ( June ‘08).
At the same time she sold £10,000 shares that she brought for £12,000. What CGT
will she pay?
- Problem: CGT is due on the whole gain in the year when gain realised, even if the gain made was
in a longer period, but only 1 annual exemption against years worth of gain
- some shareholders & unit-trust holders sell holding each year & then repurchase the
following day ஃ smaller gain covered by that years exemption = bed & breakfasting
Out-lawed in ’98 Budget: shares & unit trusts sold & repurchased within 30 days treated as if
these 2 transactions did not occurred
1.3.3.4.2 Roll-Over Relief (ROR)
= Assets disposed of are replaced by other business assets, on which ROR claimed
- Replacement asset must be brought between 1 year before to 3 years after sale of original asset
- Relief claimed up to the lower of either the gain or amount reinvested
- From 9/10/’07: surviving spouses/civil partners can increase their own nil-rate band
by the proportion of un-used nil-rate band from the earlier death of their spouse/partner
- some lifetime gifts to Co.s, organisations, trusts not PETs but chargeable lifetime transfers: tax
decreased rate of 20% immediately due & full tax if donor dies within 7yrs (tapering relief)
Donation to charity,
political party, to nation
Small gifts up to £250
per recipient in each tax yr Transfer bet spouses during life & death
Exemptions
Gifts on regulated basis from income Wedding gifts up to £1000 (increased
which not affect donors standard living to £5000 for gifts from parents & £2500
from grandparents
Up to £3000pa for gifts not covered
by other exemptions. Any remainder
can be carried only forward 1yr
1.3.3.6 Value Added Tax (VAT)
= Indirect tax on sale of most goods/services in UK: 17.5%
- Tax imposed on documents that give effect to the transaction – e.g. conveyancing of property
- Documents need stamping within a certain time period, else transfer not accepted
- % of purchase price
Stamp Duty Reserve Tax: on securities = 1.5% of market value for bearer instrument
shares = 0.5%
From 13/3/’08: Transactions in a Stamp Duty Reserve Tax charge of < £5 are exempt
-Stamp Duty Land Tax - dependent on property value
1 125,001 – 250,000
3 250,001 – 500,000
4 > 500,000
Trading profits
Also paid by: 1/4/08 – 31/3/09
Capital gains
clubs, societies, associations, trade
& housing associations & by co-operatives Income from lettings
Interest on deposits
NOT: conventional business
partnership, ltd liability partnership,
self-employed individual
- Co.s in UK pay corporate tax on worldwide profits
Co.s elsewhere only pay corporation tax on profits from their UK-based business
E.g. UK withholding tax of 20% on earnings of non-resident entertainers & sports people
- UK has double taxation agreement with 100 countries ஃ not taxed twice
1.3.4
- UK economic policy (until recently) was ‘stop-go’ = gvt cause fast and slow economic growth
Employment
Growth Inflation
Inflation Growth
Unemployment
History: Monetary policy was 2nd place to fiscal policy, as thought fiscal policy had more effect
on demand, whilst monetary policy just fine tunes economy
- Monetary Policy Committee decides IR BOE lend to banks/other institutes = Repo rate (Base rate)
- Due to high, active wholesale £££ market – lender get amounts at fixed rate
- Fiscal policy maintains sound public finances over the medium term
2 fiscal rules:
1) Golden rule = gvt borrow to INVEST, not fund current spending
2) Sustainable investment rule = public sector net debt, as proportion of GDP, is held
over the economic cycle at a stable level
- Fiscal policy outlined by gvt Chancellor of Exchequer in the annual Budget (March)
- Fiscal policy – can have macroeconomic & microeconomic effects & target specific parts of economy
- 3 parts of payments:
1) Personal allowance – cover day-2-day expenses of claimant, partner, children
2) Premiums – additional payments to people with extra needs e.g. disabilities
3) Other additions – inc mortgage interest payments & other housing costs
worked for same employer, without break, > 26 wks incl 15th week before baby due (qualifying week)
average weekly earnings in 8 weeks up to qualifying week not less than lower earning limit
– level NICs become payable
must have paid at least a specific minimum level of Class 1 NICs
- Taxable
Rate:
1) Standard rate to those earnings > lower earning limits
2) 90% average earning paid to earnings < lower limit but > minimum threshold
- paid until 1st Sept after child’s 16th birthday/20th birthday (if child in full time education, not
claiming income support/any tax credit, not serving custodial sentence of 4+ months)
- paid maximum for 28 weeks (spells of sickness with < 8wks between them) = 1 spell
- to people with average earnings > NICs payable
- depend on payment of Class 1/2 NICs – else may get income support
- 3 levels:
1) Short-term lower rate - payable to 28 wks
- not subject to income tax
- 2 levels:
1) lower rate – need care by day & night
2) higher rate – need help both day & night
1.3.5.3.4 Disability Living Allowance (DLA)
- for people who need help with personal care &/or getting around
- Tax free
usually for <65yr old
need help for qualifying 3 month period & expect to need help for further 6 months
(unless terminal within 6 months)
2 components:
1) Care component – for daily tasks e.g. washing, cooking etc
2) Mobility component – if difficulty in walking/ not walk
- if in residential care/nursing home but can not afford the minimum charges
ஃ income support available
- current state pension from WW2 since NI Act 1946 (pension to employed people at 65
yrs)
- flat-rate pension = basic state pension
- not related to employee earnings
S2P - initially offered on earnings-related basis, changing to a full flat rate basis
- only to employed people paying Class 1 NI contribution, not self-employed
- obliged to be S2P unless contracted out (themselves (full contribution paid but rebate by
transfer to alternative pension arrangement) or employer (on membership of employer’s pension
scheme – pay lower NIC))
- Less people hold financial wealth in cash, but invest to make profit (intermediary chain)
2.1 Deposits
- Deposit based investments: capital element fixed but investment income varies
- Why?
Adv Disadv
Capital secure – amount invested Inflation reduces value of capital (increased
intact inflation causes value to reduce in real term)
Readily accessible banks & Risk of loss of capital if institute becomes insolvent
building societies (Financial Services Compensation Scheme)
2.1
2.1.1 Bank a/c – 3 types of interest bearing a/c:
2.1.1.4 Taxation
- tax on interest = 20% e.g. 4% gross interest ஃ net = 3.2%
- lower & basic tax payer – no further liability
- higher rate tax payer – liable for 20% more
- interest paid gross/can reclaim tax for non-tax payers who complete R85 form
- 10% taxpayers can reclaim additional 10%
2.1.2 Building Society a/c
- For investors’ with surplus funds for long time
- Competitive IR
- Different from banks in legal structure:
Building societies = mutual organisations owned by members
Banks = limited co.s owned by shareholders
- 2 types of a/cs:
Ordinary share a/c
- Instant access without penalty
- Lower IR than notice a/cs
Notice a/c
- Access in 7, 30, 60, 90 days
- If require immediate access: get penalty charge
(interest earned over notice period)
- Tiered IRs (higher investment higher rate)
- Taxation (2.1.1.4)
2.1.2
2.1.3 Offshore Deposits
= Investment medium, bank/building society/other form of investment based outside UK
in country with more adv taxation – “taxation havens” e.g. Canary Islands
2.1.3
2.1.4 Cash ISAs
= Tax- efficient individual savings a/c
- Different forms (3.2.4) e.g. cash ISA – tax free interest on bank/building society deposit a/c
- maximum: £3,600 per tax year
- Different types if products for different types of investors (terms, IRs, tax)
2.1.4 &
2.3.1.1 Buying & Selling Shares
- Stock Exchange (SE) = London’s stocks & share market
- Trade: gvt stock, share capital & loan capital, oversees, options
2 markets:
Easy Access Tiered, *(gross paid & income taxable) 11+ 100
Savings a/c
Investment Variable, Tiered – 7 levels, * 7+ or 500 – 50,000
a/c parents if
child <7
Premium Bonds 100- Regular (monthly) draw for tax free prizes for
30,000 investors,
/person Prizes maybe worth lots of £££,
Encash any time with 8 days notice
Children’s Fixed for 1st 5yrs + bonus on 5th yr, final 16+ for <16 Lump sum for 5> yrs,
Bonus Bonds bonus on 21st birthday Encash <21 yrs, No interest paid after 21yrs
2.2 Fixed-Interest Securities
2.2.1 Gvt. Stocks
- Gilt edged securities (gilts) = British gvt securities & represent gvt borrowing
- Safe - as gvt not default interest or capital payments
- Categorised according to length of time left until redemption date = date gvt buys gilt back at original
issue value (par value) [normal: £100]
Short dated (shorts) Medium dated (mediums) Long dated (Longs) Undated
- <5 yrs - 5 – 15 yrs - 15>yrs = No redemption date
- 0-7 yrs (UK Debt - 7 – 15 yrs (UK Debt - at gvt discretion
Management Office) Management Office) - Gvt under no obligation
to ever redeem
- Interest paid at fixed rate = coupon
- Index-linked gilts = interest payments & capital value move in line with inflation
ஃ investors purchasing power of capital & interest received is constant
(unlike other fixed interest stocks – inflation reduces purchasing power)
E.g. If gilts with coupon of 5% & redemption date 2021 = “Treasury 5% 2021”
- Interest normally paid ½-yearly
2.2, 2.2.1
- Not redeemable by investors before redemption date, but can be sold to other investors
Buyer acquires stock itself & While buyer acquires stock itself, forthcoming
entitlement to next interest payment interest payment payable to previous owner of
the stock (i.e. seller)
E.g. Higher rate taxpayer buys £100,000 par value Treasury 5% 2019 at price 80.0
i.e. pays £80,000 for stock
Receives annual interest: £5,000 [£2,500 per ½ yearly] (5% of £100,000 = £5000)
= represents yield 6.25% [5,000/800,000]
Interest paid gross but 40% tax paid ஃ net annual interest = £3000 [5000*0.4 = 2000, 5000-2000= 3000]
Later he sells stock for £90,000 – no CGT on gain of £10,000 [90,000-80,000]
2.2 Fixed Interest Securities
2.2.2 – 2.2.4
2.3 Equities & Other Co. Finance
- Co. need to raise £££ to commerce/expand business
- High number of ways, incl: corporate bonds (2.2.4), shares
2.3, 2
2.3.1.2 Returns From Shares
E.g. Higher rate taxpayer receives net dividend of £900 from UK shares
ஃ gross dividend is £1000 [900/(100%-10%)].
1) FT Ordinary Share Index (FT Index) = index of 30 major industrial Co.s share
- represent ~ ¼ market value of UK equities
2) FTSE 100 Index = index of top 100 Co.s, weighed according to market value
3) FTSE Actuaries All-Share Index = index of ~ 900 shares split into sectors
- measure price movements, show yields, ratios, total returns
2.3.1.6
Rights Issues
SE rule:
Existing Co., with shareholders, who want to issue more shares, 1st have to offer shares to
existing shareholders (usually at discount)
- shareholders not wanting to take up right, can sell right to someone else
Compensates for any fall in value of existing shares (which may occur
due to dilution of the holding as a proportion of the total shareholding)
Increase the number shares & reduce the share price proportionally
2.3.1.7
Preference Shares
= Shareholders entitled to dividends on Co.s profits at fixed rate
Other Shares
Cumulative preference shares = if dividend not paid, entitled to dividend accumulation until
paid
Convertibles = securities issued by Co.s to raise capital which can be converted to ordinary
Co. shares at a later date
- before: issued in form of a loan (lower IR than normal as can convert to equity)
now: convertible preference shares
2.3.2 Loan Stock
- Co. borrows from banks & other lenders
- Loan stock & debentures are for long-term ஃ help in Co.s long term plan
- Interest rather than dividends payable (whether or not sufficient profit made)
- Paid net of 20% tax
- Higher taxpayer: additional 20%
- Non taxpayer: can reclaim
- Creditors = holders of these debts of issuing Co. (i.e. to who £££ owed)
- take priority over shareholders
- not have right to vote at meetings
Residential property
Types Agricultural property
Commercial & Industrial property
Adv Disadv
Property acceptable security for borrowing Risk of unable to find suitable tenants
UK property market well developed Location very important
Rents (ஃ capital value) tend to move with Property less available than other forms of
£££ values ஃ good against inflation investment
Property management readily available Property market affected by economic conditions
Highly costly
2.4.1 Taxation
Property income - allowable expense deductions Income tax (Basic: 22%)
Adv Disadv
2.4.3
2.5 Commodities
e.g. metals, foodstuff, electricity, timber, timber, music, art
binding agreement where 1 party must sell & other must buy
specific amount of commodity at specific price at specific date
- Lots of traders do not need the commodities, but make profit by speculating price movement
via purchasing & selling
Due to:
1) international trading of:
Goods – raw materials from different countries
Services – financial services, individual to different country for jobs
2) Investment
Short term – Co. in surplus want to invest e.g. in country with current high IR
Long term – individual & Co. buy shares & long-term loans to borrowers of other countries
- Currency speculators = trade in currency markets to speculate changes in exchange rates &
buying/selling at appropriate time
E.g. Exchange £1million to $, at 55p exchange rate (ஃ $1=55p) ஃ £1 million = $1,818,182 [£1,000,000/0.55]
2.6
2.7 Money Market Instruments
- Term to describe a number of forms of short-term debt
If required for longer period: ‘rolled over’ for further 3/6 months
- Issued by building societies & banks
- Issued by businesses (e.g. pension funds & insurance Co.s), who want to borrow large amounts
- Offers cheaper borrowing opportunities for Co.s with good credit ratings
- if Co. has bad credit rating: Paper backed by letter of credit from a bank
that guarantees repayment
- Issue period: 5 – 45 days
- can roll over if required for longer period
Adv
3.1 Investments
- Main form of direct investment (Section 2)
Main forms of
collective investments
- Authorised by FSA
3.2.1.4 Pricing of Units
= Total value of assets / No. units issued
- 3 Prices:
Offer price = price investor buys units from manager
- when there are buyers & sellers of units, bid price > minimum level,
as costs reduced due to underlying asset not needing to be traded
- Unit trusts use bid price, offer price & bid offer spread
Before 1988: client brought & sold at price determined before start of dealing period
e.g if funds daily valuation is at noon ஃ dealing period: midday to midday (following day)
Historical pricing
- Now this is unacceptable, as it does not reflect what is happening in the market
Forward pricing
= clients buy/sell in given dealing period at prices determined at end of dealing period
- prices published in the financial press are a guide to investors
1) Contract note = specifies fund, No. units, unit price, amount paid
- gives purchase price (needed for CGT when units sold)
3.2.1.5 Charges
1) Initial charges = cover cost of purchasing fund asset & commission payments to intermediaries
- typically covered by bid-offer spread
2) Annual management charge = fee paid for use of professional investment manager
- varies: 0.5 – 2% of fund value
- deducted on monthly/daily basis
3.2.1.6 Types of Units
3.2.1.7.2 CGT
- None within unit trust
- Not actual trusts, but public limited Co.s whose business is investing in stocks & shares
- Discounted ஃ investor should receive higher income & growth level than obtained by
investing directly in the same underlying shares
- Can benefit from gearing = borrow £££ to take adv of business investment opportunities
(like other businesses)
Lower & basic taxpayer – no further liability Net of 10%, with tax credit
Higher taxpayer – 32.5% of grossed up dividends
- CGT:
Fund manager exempt
Investors subject on sale of shares
- Tax efficient property investment, which avoids disadv of direct property investment
Remainder from
development/other services
75+% of gross income
derived from property rent
Single property REITs only allowed
No corporation tax on income/growth in special cases e.g. shopping centres
– need to meet requirements
Main features
Can be held in ISAs, child trust funds,
self invested person pensions
No individual can have >10% shares
90+% net profit to shareholders
3.2.3 Open-Ended Investment Co.s (OEICs)
3.2.3
= Pooled investment offered by a Co. that buys & sells shares of other Co.s, &
deals in other investment
- Issue shares (typically preference shares) can be brought & sold by investors
- Operates as Co. but can NOT borrow £££ to finance its activities, except for short term
purposes
- Popular in EU, available in UK since 1997
- Similar to unit & investment trusts (common FSA regulations on OEICs & unit trusts)
Depository - oversees operation of Co. & ensure it complies with requirements for investors protection
Authorised corporate director – Manages OEIC
Buy & sell OEIC shares Ensure share price reflects underlying net asset value of OEIC
- ‘Umbrella’ Co. – made up of sub-funds (different shares can be made available in sub funds)
= Total value of OEIC assets / Number of shares currently issued - (like unit trust)
- only have 1 price
3.2.3.4 Charges
Initial charge – 3-6% value of individuals investment
6/4/99 – ISAs introduced - develop saving habit & ensure tax relief on savings fairly distributed
3.2.4.4 Withdrawals
- Most have no withdrawal period
- Some fixed-rate cash ISAs do not allow withdrawal in specific period
- Cannot go beyond the maximum amount for that year (even if withdrawals are made during that year)
3.2.5 Life Assurance Based Investment Products
3.2.5
3.2.5.1 Endowment
= policy on which sum assured is paid out at the end of a specific term/early death
(some open-ended ஃ can receive proceeds when wanted)
Co. can NOT remove once allocated Bonus added to with-profit policy
(providing policy runs to term end) when death/maturity claim payable
Chosen fund:
Premiums used to
purchase units
Fixed benefit on death before end of term (life cover). At maturity date: policyholder receives amount
- Cost taken from policy each month by cashing in units equal to total value of all units allocated to policy
Chosen fund:
Premiums used to
purchase units dependent on the number of units
allocated at the then current unit price
Pool of units builds up
- Pay lump sum to life assurance Co. investor receives policy document
- To cash in: policy holder surrenders value of the policy = value of all units allocated
- Premium funds into internal life Co. funds ஃ the taxation is different from unit trusts
- Policy holder does not get dividends/distribution (investment & unit trusts),
instead makes small regular capital withdrawal
/£500 – if child’s family eligible for full Child Tax Credit (1.3.5.2.4)
Open CTF a/c, which is open until 18th birthday (access when 18yrs)
- Parent responsible for a/c until child is 16yrs, after which child manages the a/c
- Range of CTF providers incl. banks, building societies, friendly societies etc
3 types of a/c
From child’s 13th birthday, £££ invested into a lower risk asset,
to protect claimant from market losses as 18th birthday approaches
- Must decide which type of a/c within 12 month or HMRC opens stakeholder CTF a/c automatically
- No income/CGT or tax relief
3.2.7 Structured Products
3.2.7
- Offer element of protection of capital invested, while allowing participation in underlying assets
- maybe high-performing but high risk (e.g. ordinary shares)
- also appeal to cautious investors
e.g. Issue 14 of Guaranteed Equity Bonds (from NS&I): 5yr bond offering return
that matches growth in FTSA-100, but with a guarantee of return of capital if index falls
With profit*
Non-profit* Unit-linked*
Types
Universal Unitised with profit*
Low cost * In (3.2.5.1)
Flexible
3.3.1.1.1 Low Cost (Minimum Cost) WOL
- Sum assured payable on death ஃ guaranteed death benefit
Sum assured < overall level of cover required. When basic sum assured + bonuses > guaranteed
With bonuses added as policy continues, the death benefit, decreasing term assurance ceases
value increases over time
- Suitable for person seeking max life cover on permanent basis at minimum cost
– Method of paying for life cover by cashing in units at the bid price
- High level investment, but should not be thought of primarily as investment, but as a protection plan
- To calculate cover level, Co. makes assumptions about future growth rate of unit prices
- Initial life cover guaranteed for a certain period (~10yrs)
- Tax-free
- Use: personal & family protection, business situation (key person insurance)
- Term: few month 40+ yrs
- Premiums same amount each month/year, even if sum assured varies each year
Covers mortgage Cover for gift made during Set against nil-rate band
repayment donors lifetime (not after death)
Sum assured (like mortgage)
reduces more slowly at the Mortgage No IHT unless donor
start of the term than the end protection 2 types Gift inter dies within 7yrs
assurance vivos cover
Sum assured = amount outstanding on Sum assured set at the start of the
repayment mortgage of same term, policy, according to the amount of tax:
based on specific IRs
100% cover & IHT for 3 yrs 80% (4th yr) 60% (5th
yr)
40% (6th yr) 20%down
- Scaling (7th yr) coverrelief
= tapering & IHT ceased
Cover
-- = increasing
Increasing cover
-- = decreasing throughout the term
Decreasing cover
Term throughout the term
- Option at term end to renew policy for same sum assured without requiring extra medical advice
- New term same as previous term & new policy has further renewal option
(except up to maximum age ~65yrs) ஃ Age dependent
- Renewable & increasable term assurance = added option on renewal to increase sum
assured by specific amount (50%/100%) or previous sum
- Some Co.s offer renewable, increasable & convertible term assurance combined
Before A-Day (6/4/06): people with personal pension plans & stakeholder pension plans
to take out term assurance policies & get tax relief on premiums at higher rates
Nearly all term assurance issued as pension term assurance & get tax relief
- Applications for life assurance completed before 6/12 & submitted to insurance Co. & receipt
recorded by midnight 13/12/06 – still get tax relief – provided sum assured no greater than
that applied for before 6/12/06
5/4/07 – insurers had to process this business ஃ medical evidence checked & commencement
date of cover settled
3.3.2 Ill-Health Insurance 3.3.2
= pays income when accident/illness prevents someone earning living by normal occupation
- Occupation
Class 1: e.g. clerical, admin etc
Increasing risk
Class 2: e.g. hairdresser, pharmacist
ஃ premium more
Class 3: e.g. farmers, electrician
expensive
Class 4: e.g. coal miner, industrial chemists
NO COVER - as too risky occupations
- Other factors: age, amount, current health, medical history, sex, length of deferred period
Premiums for F>M
3.3.2.2.2 Payment of Benefits
- Commence after deferred period = time elapse between onset of illness/injury & point when
benefit payment commences
~ 4,13,26,52,104 wks
Minimum 4 weeks: prevent claim
for minor problems e.g. colds cheaper
- Self-employed – should opt for short deferred period, as loss of income after short period of illness
Employed – opt for long period. If individual receives sickness benefit by employer, deferred
period should match date sickness benefit ceases
- Set so: benefit income < working income
~ 60 – 65% pre-disability earnings (unless Incapacity Benefit)
- Cover is ‘permanent’ ஃ insurer can not cancer cover even if numerous claims made
- Can be cancelled if premiums are not kept up or policy holder gets a hazardous job
- Some policies allow benefits to be indexed before/during a claim – 3-7% (based on inflation)
- Level of income = monthly mortgage repayments paid for limited time (max 2yrs)
3.3.2.3.1 Taxation
- Tax free
- No tax relief on contribution to policy – whether arrange group/individual
- If arranged on a group basis, any contribution employer made is set as an expense ஃ corporation tax
– Classed as a benefit for employees earnings > £8500/yr
3.3.2.4 Private Medical Insurance
= protection plant to cover cost of private medical treatment
Reimbursement of
- Way benefit paid varies between providers (full refund/impose upper limit in 1 year)
Type of scheme taken out
e.g.budget scheme - limit choice of hospital
Medical care cost varies
throughout country
Location
Premium rate Standard of accommodation
depends on
High age high morbidity
3.3.2.4.1 Underwriting
- Cover scheme may excluding certain events, pre-existing medical conditions, general
3.3.2.4.2 Taxation
- Premiums subject to insurance premium tax
- Benefits paid are tax-free
- Normally: claimant has to be incapable of performing 2/3 ADLs before they can claim
- Higher number of ADLs not performed require high amount of care higher benefit level paid
20% at source
3.3.2.5.2 Taxation Only interest element Higher rate payer: further 20%
3.3.3.1 Indemnity
In the event of a claim, insured persons should be restored to the same financial position after loss that
they were in immediately before the loss occurred
3.3.3.2 Average
- Policyholder may underinsure
e.g. Policyholder insured for £10,000 contents (although the true insurance is £15,000)
ஃ claim for £300 damaged carpet insurer pays £200 [(10000/15000)*300)]
3.3.3.3 Excess
e.g. motor policies have excess of £100 on accident damage is part of cover
- avoids admin cost of dealing with small claims
Explosions,
subsidence Storms &
& earthquakes floods
- Some cover subject to property not being left unoccupied for a specific period e.g 30 days
- due to risk of vandalism, theft, burst of water pipes etc.
3.3.3.5 Contents Insurance
Contents = anything you would take with you if property were sold
Cover for:
3.3.3.4
Accidental damage by professional removers
Extended cover for specific property outside house
Damage to freezer contents due to
electrical failure
3.3.3.6 All-Risks Insurance (/Extended Contents Cover)
= indemnify policyholder for loss, damage or theft of items regularly taken out of home
- 2 categories:
1) Unspecified items = each item must have value<specific amount & not specified
2) Specified items = items above single-item value limit & individually listed
- 3 types (next slide) – variations in exact cover nature by different Co.s esp. comprehensive
- Large market ஃ lots of competition & lots of other covers e.g. roadside breakdown, courtesy car
etc
- Types of cover: 1) 3rd Party
2) 3rd Party, Fire & Theft
3) Comprehensive
Cover against 1 2 3
Death, injury, damage – when policyholder uses another vehicle / / /
& other drivers using policyholders car with permission
Death/bodily injury to 3rd party inc. passengers in car, hospital / / /
charges, emergency medical treatment
Damage to property / / /
Legal costs- in defence of claim / / /
Fire, lightening, explosion damage to vehicle / /
Theft of vehicle, incl. damage caused & attempted theft / /
Accidental damage to vehicle /
Loss/damage to personal items in vehicle /
Personal accident benefit /
Windscreen damage /
Road Traffic Act 1988: unlawful to use motor vehicle on public road unless there is insurance
policy with respect to 3rd party risk
- Related to commitment to buy/sell that other product at a fixed price on a future date/between dates
- Convey rights (e.g.right to buy at a different price from current market price), derivates
themselves have value & maybe traded (e.g. ordinary shares, commodities, IRs, exchange rates)
- Main forms:
Options = Right (but not obligation) to buy/sell specific amount of assets
(e.g. number shares) at specific price (exercise price) within specific period
- Call option = option to buy
Put option = option to sell
- Buyer of option contract pays purchase price (option premium) to seller (writer) of the contract
Warrants = Similar to call options, except generally issued by Co.s, & gives holder right to
purchase that Co.s ordinary shares
- Allows Co. to raise new capital
3.5 Lending Products
3.5, 3.5.1
- Most large product purchases are done by borrowing £££, based on credit
3.5.1 Mortgages
- Large, long-term ஃ mistakes are serious ஃ advisor must choose carefully:
Mortgagor = individual borrower who transfers property to a lender for the duration of a loan
Mortgagee = lender (bank, building soc) who has interest in property for duration of loan
3.5.1.2 Repayment Mortgage (/Capital- & -Interest Mortgage)
= capital
Capital Interest
1) Start Low High
2) End High Low
1 Term 2
- The amount of capital outstanding decreases by smaller amounts each month at the
start compared with towards end of term
- 2 important factors:
Mortgage will be repaid at the term end, provided IR changes have been allowed for, & all
repayments are made when due
If borrower dies before term end, repayments continues/loan repaid ஃ life assurance is required
- No capital repayments made to the lender during loan term ஃ capital remains outstanding
- Life policies can be legally assigned to a 3rd party, who then becomes the owner of the policy
& is entitled to receive benefits in the event of a claim
- some lenders require endowment to be assigned to them as part of the mortgage deal
- others require policy document to be passed to them, without formal assignment
Premiums are higher - Problem: borrowers want to keep mortgage costs to the minimum
- If total sum assured + bonus < loan amount at the end of term,
it is up to the borrower to fund the difference
Life Co.s help avoid this by including progress reviews of the endowment
not guaranteed
- Policyholder can choose fund(s) to use for investment (recommendations made in managed funds)
- Most Co.s provide facility to switch to cash fund, which protects against a market drop near term end
- Adv:
In a strong increasing market: may reach required amount before termend policy surrendered
loan repaid early ஃ saving future interest & freeing from repayments
Adv Disadv
25% accumulated fund can be taken as tax-free Minimum age lump sum can be taken usually 50yrs
cash sum when pension payments commence (55yrs in 2010) ஃ term of mortgage must run until then
– can pay mortgage loan out of lump sum else mortgage not paid earlier even if have funds
Pension contribution qualifies for tax relief at Only 25% can be taken as cash ஃ fund of 4x loan value
persons highest rate of tax e.g. for higher taxpayers required (remaining 75% for retirement pension)
each £100 costs only £60 (no relief for endowment ஃ maybe: total contribution > borrower can afford/
policies) permitted by regulation
Funds of investment contribution not subject to CGT Not automatically with life assurance (unlike endowment
ஃ grow faster than endowment policy which subject policy) ஃ separate policy required (after 6/12/06 – can not
to income tax & CGT get pension term allowance for this (3.3.1.4))
- Allow regular monthly payments to be made, but can not exceed annual limit
- ISA managers calculate the amount required to pay a lump sum at the end of the mortgage term
– based on assured growth rate, levels of costs & charges
Adv Disadv
Fund free of CGT ஃ low cost of repaying ISAs may not be available in long term ஃ may
mortgage have to the change repayment vehicle
If funds growth rate > assured initial calculated If the growth rate does not match initial assumptions
ஃ mortgage repaid early ஃ final lump sum may have shortfall
In premature death, ISA value unlikely to be
sufficient to repay ஃ require life assurance cover
LOOK AT APPENDIX (IV)
- How interest charged varies from lender to lender e.g. annual, monthly, daily
2.5.1.4.8 Lower initial repayments (keep Deferring capital instalments initially (after this period
Low-Start initial costs down) premiums will increase)
2.5.1.4.9 Initially some interest not paid Useful for people expecting an increase in income
Deferred but added to outstanding capital (not useful for people borrowing high loan:value especially
Interest when prices may decrease negative equity)
2.5.1.4.10 Charges, access, terms For those who want clearly stated limits
CAT-
Standard (FURTHER INFORMATION BELOW)
… continued…
3.5.1.4.6 Flexible Mortgage
Features
E.g If borrower has offset interest-only mortgage: £80,000 & Saving a/c with lender: £25,000
ஃ can opt to waive interest on savings & enable interest to be charged on the net loan:
£55,000 (80,000 – 25,000)
- Offset interest payable on various savings a/c’s against interest charged on mortgage
& other (un)secured loans held with lender
- Many lenders offer: flexible mortgages with fixed, discounted on capped rate for initial period
- Early repayment charges not apply but arrangement fee may
- May have a conditional insurance product from lender with the loan
… continued…
3.5.1.4.10 CAT-Standard
Equity = excess of market value of property over outstanding amount of any loan(s) secured
against it (difference between: [property value – loan amount])
- Enable elderly homeowners, who do not have mortgage, to release equity to supplement
retirement income
Interest rolls up & repaid, along with original loan, when property sold on applicants death
(or 2nd borrowers death, if they are a couple)
e.g. 60yr borrower would accumulate more interest than 70yr ஃ 60yr not able to
borrow such high % of property value as 70yr old
ஃ Maximum permitted loan varies according to age: e.g. - 15-20% property value for 60yr
e.g. borrower can purchase 25% stake in the property, fund by a mortgage option of buying
subsequent 25% in the future
- Borrower has covenant (= promise under terms of mortgage deed) to maintains the property
in a good condition
- Borrower offers something of value as loan security ஃ lender can take & sell the
security asset in case of default
E.g. mortgage loan for house purchase, security could be the borrowers private residence
ஃ in the event of a sale, by default, original lenders claim is fulfilled 1st & if there is a
surplus it is given to the 2nd mortgagee’s charge
- Lenders only offer 2nd mortgage if there is sufficient equity in the property
- Higher risk for lender than secured loans ஃ higher IR charged & for shorter terms
- Building Society Act 1986: allow building societies to do unsecured loan (maximum 25%)
= Current a/c facility enabling customers to continue using a/c in normal way even
though funds exhausted
– short-term temporary borrowing to assist customers over a period where expenditure > income
- Limit set by bank
- Most common form: credit cards, other forms: personal loans allowing drawdown funds
- Due to technology there has been a high amount of development in cards (35yrs ago):
- If the balance paid in full within certain period (~25 days), no interest is charged
if it is not paid: remainder carried forward & interest charged at the current rate
- Credit card Co.s charge fee to retailer for their service – deducted (~3%) of transaction value
when Co. settles with retailer
- Adv: - Attractive
- Payment guaranteed – if acceptable by Co.
- Low retail bank charges – credit card vouchers paid bank a/c – treated like cash
3.5.3.3.2 Charge Cards 3.5.4
- IR depends on risk lender believes involved – assured looking at Co.s past performance
3.6
2) Money purchase (Defined contribution) – agreed contribution invested for each member
- UK, <75yrs – can receive income tax relief at highest marginal rate on contributions to
occupational & private pension schemes, up to a maximum of 100% UK earnings or £3600
- Benefits normally taken from schemes when individual is 50+yrs (minimum age rise: 55yrs (6/4/2010))
- 25% of fund can be taken as tax-free cash but remainder taxable income
Before 6/4/06: compulsory to buy annuity by 75yrs Maybe taken by purchasing annuity
Now: draw down/pension fund withdrawal
Can make regular w/d’s of capital from fund (has limits) Can buy from other providers who give
higher annuity rate = open market option
3.6.1 Additional voluntary contributions (AVCs) 3.6.1
- Before 6/4/06: employees who are members of occupational schemes only contribute to PPP/SHP
if earnings < £30,000pa (Maximum contribution: £3,600pa)
Now: all employees can contribute an overall maximum of 100% UK earnings / £3600
- 20% tax relief at source
- Higher rate taxpayer: need to claim additional relief via self-assessment
AIM of SHPs: take pressure off the state pension by encouraging individuals to make own arrangements
- For most people, but intended for people on lower earning levels, who do not have pension provisions,
& rely on state pension
- failed: as purchased by people who more financially better off
- SHP is a private pension scheme, but in some circumstances the gvt makes it compulsory
for SHP scheme to be provided by an employer
e.g. employer has 5+ employees & no occupational pension scheme
- Employees not obliged to join
- Employer must provide payroll deduction scheme for those who join & pass
employees’ contribution to the scheme
Charges can not exceed 1.5% fund value per annum for the 1st 10yrs of term & 1% after
No exit & entry charges
Minimum contribution required not exceed £20
- Effect of charge restrictions means independent financial advisors do not receive commission
ஃ individuals may find it a problem in obtaining advice on SHPs
High long term potential but short term risk Less flexibility & higher return investments
e.g. fixed term bonds
High liquidity & safety: Move away from liquidity, & higher risk: 4.1
(some easier (rent, bills) others hard (holidays, food & drink))
Look at:
State benefits – nature & level of entitlement
Existing arrangements
Affordability
Taxation – ensure action does not increase/create tax
Risk
Timescale
Flexibility – to deal with possible changes in clients circumstances
4.6,
4.6.1,
4.6.2
contract is made void as the client failed to disclose some information on the form
ஃ the whole process was a waste of time
4.6.4 Documentation
- Adviser must explain the cancellation notice
right to withdraw from arrangement within defined period
Key features documents, - Given to the client before the sale is closed
Clients specific illustration, - Provide all the information required to make a
Product brochure (product features) decision
Given business card
- Maybe previously agreed: e.g. next salary review, job change etc…or not
- Opportunity to recommend other products
- Review: changes in circumstances, update appropriate records
e.g. discuss recommendation after comment made in media or client circumstance changed
- Maybe requested by someone else e.g. next of kin to sort out death claim
- Record must be kept up to date to be efficient, and increase business – comply with FS&MA2000
SECTION 5: MAIN AREAS
OF FINANCIAL ADVICE
5.1 Budgeting
= To have sufficient funds for necessities & how much can be spent on other items
- Not as necessary now (as credit available, but still got to repay)
5.2 Protection
- Important to have precautions e.g lives, health - although low number of people do
- Co. take out term assurance on the employees life for the period employee expected to
be the key person e.g. until retirement/contract end
- If term <5yrs: premiums allowed as a business expense (can be set against corporation tax)
- In the event of a claim, policy proceeds taxed as business receipt & subject to corporation tax
5.2.2.2 Death of a Business Partner
Scheme Automatic Accrual Method Buy & Sell Method Cross-Option Method
Action All partners enter into All partners enter into All partners enter into
agreement agreement agreement
Effect on His share divided amongst Partner’s legal representative Partners legal representative
remaining remaining partners in agreed obliged to sells his shares to have option to sells his
partners shares to other partners
proportions the other partners, who are
obliged to buy who have options to buy
Other
Family compensated by Partner takes out life policy on Those who inherit receive
information
proceeds of life policy written his own life, in trust, for other business asset & business
in the trust partners inheritance relief
PROBLEM: those who inherit,
receive cash (not business
asset) ஃ no business
inheritance tax relief
5.2.2.3 Death of a Small Business Shareholder
- Usually limited Co.s with shareholders often family/friends
- same schemes as (5.2.2.2)
Adv Diadv
Reduce overall monthly repayments Unsecured loans are now secured against
- as unsecured loans now subject to property – even bigger problem if borrower
lower IRs & longer term defaults
5.4 Investment & Saving
- Provide income or capital sum
- Things to assess:
5.4.3 Accessibility
Instant/short access notice Not directly accessible until fixed maturity date
deposit a/c gilts, shares
5.4.4 Taxation
- especially income & CGT
Shares & unit trusts (both taxes) gilts (income tax not CGT)
- Important to consider tax regime of the product, & tax position of the investor
5.4.5
- if IR < inflation rate, the RRR is negative reduce investments purchasing power
- People suffer £££ illusion – as they do not adjust inflation with IR:
ஃ Effect of low IR, on…
Savers: think they are receiving low return on savings ஃ react to lower inflation
rates by putting their £££ into riskier assets to get higher return problem at retirement
Borrowers: think they are gaining from lower monthly repayments ஃ may take higher
mortgages, as they think they can afford to
- Increasing, as moving occupational pensions from final salary scheme £££ purchase
schemes
- Gvt putting measures into place
e.g. stakeholder pension
- target income range: £9000-£20000 with low pension provision, but attracted others
- low charges & minimum contributions
- less sale, as the maximum charge providers can add is 1.5%
ஃ low marketing of the product & low commission for advisers
5.6 Estate Planning
5.6
- It is not possible to avoid IHT by giving the property away while continuing to live in it.
Classed by HMRC: ‘gifts with reservation’ rule
= if the donor retains any benefit from the gifted assets, IHT is charged
- Loophole in the rule: - By placing the property in a trust
- Married couples & civil partners can now use whole of both their nil-rate bands to pass property
tax-free to relatives/others
- % of nil-rates bands unused on 1st death can be carried forward & used to
increase nil-rate band on 2nd death
5.7, 5.8
2) Make provisions for paying - life assurance policy for anticipated IHT
- to avoid policy becoming part of the deceased’s estate ஃ IHT liable as well –
policy
should be written in trust for the benefit of the beneficiaries (need a valid will)
- if will is valid:
Executor(s) apply for grant of probate = legal authority to ensure the will is carried out
Appointed (i.e. named in the will) by testator (person making the will)
Can also be the Time consuming ஃ can appoint solicitor to carry out tasks
beneficiary of the will
- Advisers role: NOT writing the will but showing its benefits & recommending the client to draw up a will
- Beneficiaries can vary the way the estate is allocated = execute a deed of variation
All beneficiaries must: (usually for tax purposes) e.g. could reduce IHT
- >18 years old
- Agree to the terms of variation
6.2.1 Intestacy
Partial intestacy = valid provision for distribution of some assets but not of others
Rules:
Deceased have… Amount to…
Children? Spouse? Children Spouse Parents/ Siblings
0 / 1st £200,000 + ½ remainder Remainder
/ / ½ of the balance. 1st £125,000 + ½ to trust
/ 0 Shared equally
amongst children
0 0 All
6.3
- Settlor = person who creates the trust & who originally owned the asset in trust (trust property)
- once in trust, asset no longer owned by the settlor (unless he is a trustee)
- Beneficiaries = people/organisation who will benefit from the trust property
- Trustees = people, appointed by settlor, who will take legal ownership of the trust property &
6.4 Co.s
= legal entities, separate from shareholders or individual employees
- Shareholders of limited liability Co. are not personally liable for the Co.s debt
- Limited to the amount they invested in Co. shares
- Rules about what Co. can & can not do are set out in the memorandum & articles of association
e.g. borrowing limits on amounts & purpose
- When making a contract for lending to a Co., it is important to ensure the person signing is
empowered to do so & is authorised
6.5 Partnerships
= arrangement between people carrying on business together for profit
- (unlike Co.s) It is NOT a separate entity ஃ partners jointly own assets & liabilities (6.5.1)
- Should have written agreement – setting out details between partners incl. share proportions
of profits & what happens if 1 partner leaves etc. (5.2.2.2)
- Exceptions
e.g. insurance contracts on principle of utmost good faith:
all material facts are disclosed
ஃ if not, contract maybe void
- Breach of contract = party fails to perform his side of contract & no legal excuse
To court:
Seek damages = injured party seeks financial compo for losses, to
position if contract had not been breached
Order for specific performance e.g. party to complete contract
Injunction = count order preventing someone from doing something
6.7
- Important to understand how much power & authority vested in the agent
– depends on rules & regulations
- Agent should only act within power given by principle – needs observing
- may act within apparent authority = something done/said by principle
to suggest agent has authority
- if agent exceeds power – principle maybe liable
- if a 3rd party is unable to rely on the agents claims, that he (i.e the agent) has authority, the
3rd party can hold the agent liable
1) Realty - property is real if court restore to dispossessed owner & not merely provide
compensation for the loss
- distinguished as immovable e.g. land & real estate
1) Joint Whole property owned All automatically transfer to Both equally liable for
tenant * by each of the owners other NOT overridden by the whole debt
deceased’s will
2) Tenants in Each owner has His share goes to whoever is Each responsible for
common identifiable share in entitled according to his in will portion of debt
property
- Person who can not enter into a contract (e.g. minor/mental), cannot appoint an attorney
- power of attorney ceases if the person becomes mentally disabled
- Only set up if creditors representing > 75% of debt agrees to the arrangement
- Individual with IVA is not able to get credit while IVA is in place & their credit-worthiness is likely to
be impaired later
UNIT 2 UNIT 1
UNIT 2
UK FINANCIAL SERVICES
& REGULATIONS
SECTION 1: THE FSA
- Primary objective of the gvt: - economic & legal balance between need for businesses to make a
profit & rights of the customer
regulatory legislation
- reactive rather than proactive (want to move to a proactive stance)
- result from:
2) Lots of regulation
1998: responsibility for regulation of UK banking sector transferred from Bank Of England to FSA
2001: FSA took control of most financial services industry under FS&MA2000
- incl. Regulation of professional & business behaviour of all parts of the industry
(incl. 800 insurance Co.s, 600 banks, individual employees & sole traders)
- also covers: solvency, capital adequacy, sales & marketing, crime, complaints etc
General insurance – under General Insurance Standards Council (to FSA in 2005)
1.2 FSA’s Objectives Role & Activites 1.2
- Undertakes role by setting rules, training, guidance etc via a range of sourcebook
Sourcebook Include
High Level of - Principle for business
Standards - Senior management arrangements, systems, controls
- ‘Fit & proper’ test for approved persons
- Threshold conditions
- Statements of principle for approved persons
Regulatory - Rules & guidance for firms seeking authorisation & FSAs enforcement powers
Process - Supervision manual: how FSA references & monitors compliance of authorised firms
Redress/ - Investor complaints & compensation procedures
Specialist - Arrangements for professional firms e.g. solicitors
Business - Money Laundering
Standards - Conduct of Business: Standards applied to marketing & sales of financial product
- (2007): New Conduct of Business Rules Book (NEWCOB)
introduced
- Training & Conduct
- Interim Prudential: Financial soundness & different types of firms (e.g. assets & liabilities,
reserves, reporting)
1.2.5, 1.2.6
1) Intergrity 1) Integrity
2) Skill, care, diligence 2) Skill, care, diligence
3) Management & control 3) Observe proper standard of market conduct
4) Financial Prudence 4) Deal with regulators open & co-operative
5) Proper standard of Market Conduct
6) Customers’ interest Significantly influential positions:
7) Communication with client
8) Manage conflict of interest fairly 5) Business of firm organised & controlled
9) Customer relationship of trust 6) Skill, care, diligence
10) Protection that firm must arrange 7) Steps to ensure business complies with
clients’ assets standards & requirements
11) Relations with regulators of firms
– open & co-operative
1.2.7 Treating Customers Fairly (TCF) 1.2.7
Problem with rules & regulations: People aim to comply with the ‘letter’ of law rather than ‘spirit’
ஃ use loop-hole FSA introduced TCF (develop ethics’)
‘Fair’ - FSA undefined saying: ‘flexible, dynamic & varies with circumstances’
- ஃ definition lies with firms management
- 6 improved outcomes:
1) Consumer confident firm is fair
2) Product meets needs of identified customer groups
3) Consumer provided with clear info at all stages
4) All advice suitable for customers circumstances
5) Products & services perform as customer expects
6) No unreasonable barriers e.g. making complaint/claim
- By Mar 2008: firms expected to have place management information systems to test if customers
are being treated fairly
- By Dec 2008: firms must be able to demonstrate to FSA customers are being treated fairly
1.2.8 Arrangements, Systems & Controls for Senior Managers
1.2.8
- Senior manager must take responsibility that firm is complying with FSA regulations
Assessment &
Compliance reporting risk
Chains of Reporting other
responsibility management information
Range of
firm activities
Strategy for controlling business risk
Competency & honesty of staff & recovering from serious problems
especially approved person
1.2.8.4.1 Auditors
External auditors - especially concerned with published financial statements & a/c’s free
from misstatements, comply with law & accounting procedures
- independent of institute whose a/c being audited e.g. accountants
- conform to Auditing Practices Board & Accounting Standards Committee
e.g. Unit trust trustee: legally owns trusts assets on behalf of unit holders
Occupational pension scheme trustee: rights & duties in Pensions Act of 1995 & 2004
- Responsibilities incl:
Ensure staff meet FSA requirements regarding recruitment & training
Responding to & corresponding to FSA on compliance matters
Products & publication compliance manual
Maintenance of compliance records e.g. complaints register & promotions records
1.2.9 ‘Fit & Proper’ Test for Approved Persons 1.2.9, 1.2.10
- FSA established set criteria determining if person is ‘fit & proper’ for controlled functions
within the financial services industry under FS&MSA2000 (1.7.1)
Criminal records
- Criteria: Disciplinary proceedings
Known to go against regulations/law
Honesty, integrity & reputation - judged by:
Complaints/Dismissals
Insolvency
- Financial service organisations must be authorised by FSA if it carries out regulated activities
with respect to regulated investments (1.3.1 & .2) & controlled functions (1.7.1)
- Permission given by listing the regulated activities & investments firm is allowed to carry out
- via FS&MA2000 Part IV (Part IV permission)
1.4 Capital Adequacy 1.4, 1.4.1
- Aim of industry regulators: protect firms, customers, economy by establishing rules & principles
- Different rules for deposit-takers, investment firms & life assurance Co.s
- Any losses (e.g. written off repayments) bourn by shareholders not depositors
- Minimum requirement for capital adequacy is set by Basal Committee on Banking Supervision
ஃ % contribution of less risky asset has less risk-weighted total than more risky asset
- Basel II: is slightly more flexible to reflect the business of individual institutions
Incl. capital requirements for operational risks
Basic approach: capital required = institutes gross annual income (average over 3yrs) x 0.15
- Backed by disclosure requirements to ensure bank publish information for risk profile
1.4.2 Capital Adequacy for Investment Businesses 1.4.2
1990’s: investment firms allowed freedom to provide same services as banks & other credit institutions
ஃ Institute Services Directive (ISO) (1996) & Capital Adequacy Directive (CAD)
Markets in Financial Instruments Directive (MiFID) & Capital Requirements Directive (CRD)
- Harder to determine from most other Co.s as liabilities relate to payment Co. may or may not have
at unknown dates in future (e.g. due to death claim) & depend on future mortality rates & IRs
- Regulations are complex, but the basic rule: for policies with an investment risk (e.g. endowment
policies) require a minimum 4% solvency margin (lower for lower risk)
i.e. Co.s assets = 104% of values of liabilities
- Authorities in individual EU states (e.g. FSA in UK) can relax rules temporarily if required
e.g. in 2003: when stock market securities reduced
– FSA rectified by reducing prospective liabilities e.g. annual bonuses
1.5 Risk-Based Approach 1.5
- Types
Prudential risk – e.g. risk of firm collapsing as incompetent management
FSA aims
to reduce Bad faith risk = risk due to fraud, mis-representation, mis-selling
Complexity/unsuitable risk = risk of customer not understanding product
FSA not take
responsibility, but Performance risk = risk that investments fail to deliver hoped-for returns
aims to educate
consumer
- Assessment of risk:
• Probability factors = likelihood of problem occurring
- Business risk – e.g. business strategy, capital adequacy, a/c’s
- Control risk = quality of management, internal systems, controls
- Consumer relationship risk – e.g. marketing & advice practice
- Rules shifted to allow firms more discretion on marketing ஃ many existing provisions replaced
More flexibility, but their responsibility their rules conform to the principles
1.7.2.1 Comparisons Promotion is clear, fair & not misleading
- Must be meaningful & fair
- MiFID firms require details of information source & assumptions made in comparison
1.7.4.1 Training
- Organise training at appropriate intervals, & evaluate
results
1.7.4.1.1 Assessing Competence
Assess employees has knowledge, skills & passed all modules
Conferences
- Methods Private study
Training courses
2) Professional client - Otherwise incl. in eligible counterparty, except require higher level
of service, e.g. advice
- Adviser can assume high knowledge & ability to accept risk
Not required if the customer received one in the past & terms have not changed
- Client must be informed about the terms before information/advice given
- Problem: commission bias (i.e. adviser gives the product with higher commission)
ஃ Jan 2002 – ‘Reforming polarisation – Making the Market Work for the Consumer’
i.e. ended polarisation
June 2005: Depolarisation= new way determining & explaining the way clients pay for advice (1.7.5.5)
Includes
How to get compensation from financial
Details of ownership & regulation service compensation scheme
How to complain e.g. Ombudsman Services
1.7.5.3 Suitability Requirements
- Do NOT give advice until a fact find is done & client understands the risks
- Depends on client situations & need
- When issued? ASAP after transaction & no Before transaction Within 14 days of transaction
later than cancellation notice effected
- Advisers does not need to fully explain the nature of the transaction or risk
ஃ it is customers own responsibility
- Basis & amount of charges disclosed in writing before the business is transacted
- maybe explained in client agreement
- charges on packaged products in ‘menu’ & key
features document
- If it is a ‘packaged’ product (e.g. life policy), adviser discloses, in cash terms, the amount
commissioned
Where additional information can be found Client specific information relating to charges
- Full refund of any premiums paid (except if client cancels a lump sum unit-linked investment, where
£££ is invested & the value fallen)
1.7.6 Stakeholder-Type Product
- Simple, low cost, risk controlled product for less financially sophisticated
- Maximum annual charge for investment - 1st 10yrs of life of a product: 1.5%
product: - after (/throughout if before 6/4/05): 1%
- Controlling risk: limit proportion of shares in stakeholder unit-linked & with-profit products
to 60% of the fund remainder into fixed-interest securities & cash
1 The scope of rules Rules & types of activities covered (incl. to intermediaries)
2 General rules Rules on communication, record keeping, inducement
3 Financial promotion Advertisements clear, fair, & not misleading
4 Advising & selling Information on status: [details of firms regulation (FSA), whole-
standards market product, producer, how to complain, information in IDD,
combined initial disclosure document (CIDD)],
Fees
Advice suitability
Excessive charges
Unsolicited services – contract renewal
5 Product disclosure Product information, terms of contract, price, cancellation rights
6 Cancellation If customer cancels ஃ provider must return sums in 30 days
- can deduct charges
7 Claims handling Insurance Co. ensuring rules complied to if adviser acting on behalf
of them & customer must be told
2.1
2.2 Definitions
Money laundering = process filtering proceeds of criminal activity through series of a/c
or financial products to give it apparent legitimacy
- Specifies money laundering within EU treated under directive, even if activities to generate
property took place in a non-EU country
Property = asset of every kind, (in)tangible, (im)movable, as well as legal documents giving
title to such asset
Criminal activity = crime specified in Vienna Convention United Nations Convention Against
Illicit Traffic in Narcotic Drugs & other criminal activity as specified by each
member state
- 31/8/06: Money Laundering Sourcebook deleted, & firms given flexibility to structure controls &
procedures around their specific risks (guidance from Joint Money Laundering Steering Groups)
2.3
Reporting
Education Training
Procedures &
accountabilities Money Laundering Reporting Officer (1.7.1)
Ways to prevent staff Identity evidence
Refrain from alerting money laundering
investigated - for transaction >$15000 (~£10000)
- different for life assurance policies (2.4)
Report at least once a Up to date procedures & records
year & assess firm’s
compliance to sourcebook Strengthen deficiencies
Financial exclusion guidance (2.4.1) FATF = highlight developments in ML & deficiencies in rules
2.3.1 FATF 2.3.1 – 2.3.4
- Required when:
Entering into new business relationship
New customer: when value > €15000/life assurance policy
- €1000/yr (€2500 single) premium
If suspected of money laundering
- Acceptable forms: current passport, national ID card with photo, driving licence, utility/tax bill
- 1+ times a year the senior management gets a report from the MLRO
2.8 Enforcement
- FSA can discipline firms/individuals if they breach money laundering laws
& can prosecute under the Money Laundering Regulation 2003
SECTION 3: COMPLAINTS
& COMPONSATION
- Lots of legislations & firms to protect customers from fraud, but not 100%
ஃ customer has to take responsibility
- Eligible complainants:
Private individual
Small business (annual turnover < £1million)
Charities (annual turnover < £1million)
Trustees of trust with assets < £1million
- Types of complaints:
Hard = allegation of financial loss, material distress - records kept for 3yrs
Soft = any other
- same rules except hard complaints have deadlines & reported to FSA
if 8 weeks pass
Letter to explain
Inform customer of Ombudsman Service
within 6 months of the date of the letter
- 3 areas:
Banking & Loan Division
Insurance Division,
Investment Division
from 6/4/07 Consumer Credit Complaints
- Free
- Deal with complaints if the firm can not – within 6 yrs of event giving rise to complaint
- Dec 2001: scheme for compensation if cost customer has lost £££ by insolvency of an
authorised firm
- Sub-schemes:
Default of insurance Co. 100% of 1st £2,000 90% if balance – no upper limit
If compulsory insurance: 100%
Loss due to firm insolvency 100% of 1st £30,000 90% of next £20,000 (i.e. max £48,000)
Loss of deposited funds due to 100% of 1st £35,000
default of bank/building society
Claims against mortgage advice 100% of 1st £30,000 90% next £200,000 (i.e. max £48,000)
& arranging firms
Pensions Ombudsman
Legally binding
- Communicate to Ombudsman via writing – within 3yrs of the event (excl. internal complaints
procedures)
SECTION 4: DATA PROTECTION 4.1, 4.1.1
4.1.1 Definitions
Data subject = individual whose personal data is processed
Personal data = ‘information relating living individual who can be identified from information/
combination of information in possession of data controller
Sensitive personal data = this data can only be processed if individual gives explicit consent
- incl. racial origin, religious belief, political persuasion, physical & mental health
Processing = all aspects of owning data- obtaining, recording, organising, disclosing, erasing
Data controller = legal person determining purpose data processed & way its done
- normal: organisation/employer
- ensure requirements of Act carried out
Data processor = person who processes personal data on data controllers behalf
4.1.2 Data Protection Principles 4.1.2
1) Processed fairly & lawfully – incl. controller tells the individual what & why data is processed
- data not processed unless subject gives consent or processing for following reasons:
+ perform contact with the subject or to protect the subjects interest
+ fulfil legal obligation or carry out public function
+ pursue legitimate interests of controller – unless this prejudice interest of subject
8) Not transfer to country outside EU Economic Area unless data protection regime adequate
4.1.3 Enforcement
4.1.3
- IC can issue 2 types of notices to the data controller (if infringing terms of Act)
1) Information notice = require controller to specify organisation will take to comply to Act
2) Enforcement notice = require organisation to take specific/refrain from action
- Maximum penalty: £5,000- unless the case goes to Crown Court (unlimited fine)
SECTION 5: OTHER LAWS & REGULATIONS
RELEVANT TO ADVISING CLIENTS
- Sets out the standards of how all lenders must conduct their business incl. safeguards potential
borrowers, must be made aware of nature & condition of loans & rights & obligations
- Affects most aspects of banks lending activities – incl. loans & revolving credit
Not all loans are included:
- Loans >£25,000
- regulated by Consumer Credit legislation (unless exempt (next slide))
- from Apr 2008 all loans are covered
Clients must receive a copy of the
loan agreement for own records
Suppliers of loans & Prospective borrowers have cooling
credit licensed by off period – unless agreement
Office of Fair Trading signed on the lenders premises
Main elements of Act
IR
- 2 factors:
Additional costs & fees
5.1.1
5.1.1 Changes
- due to 3yr review, to make law fair & competitive credit market: Consumer Credit Act 2006 (CCA06)
CCR (Disclosure - What information must be disclosed to prospective borrowers & the way
of Information)
CCR (Early
- Confirm entitlement of borrowers to rebate when all/parts of the debt repaid
Settlement)
earlier & the way to change calculation etc
5.2 Unfair Contract Terms 5.2
- Terms mean services will be performed in reasonable care, time & charge
- Remains separate from other financial services & even private pension schemes
Powers
Putting things right Acting against avoidance
Specific action to incl.
= prevent employers from deliberately
improve matters avoiding
Fines/ pension obligations & leaving Pension
Disqualifying trustees prosecution
Recovering Protection Fund to cover pension liabilities
who are not fit
unpaid
- Actions:
Contribution notices – require employer to make payment on debt to the scheme or
Pension Protection Fund
Financial support directions – require financial support in place for under-funded scheme
- Issue voluntary code of practice on range of subjects & expected standards of conduct
100% for existing pensioners incl. ill 90% for pre-retirement member
health, retirement & survivors benefits subject to overall benefit cap
- Taken over responsibilities of the Pensions Compensation Board to provide compensation for
defined-benefit & contribution schemes in fraud
- To ensure compensation retains value over time, payments increased in line with retail price
index (RPI) - up to a maximum 2.5%
Compensation funded in 2 ways: Take over assets of pension schemes with insolvent employers
Levy on all private sector defined benefit (element) schemes
5 parts
Fund compensation levy (replaced
Pension protection levy based on
Pensions Compensation Board levy)
risk factors ~80% of PPF (incl.
under-funding, credit rating)
PPF Ombudsman levy –
cover cost of PPF Ombudsman
Pension protection levy based on
scheme factors (incl. number of Administration levy – cover set up
active & retired members) cost & undergoing cost of PPF
5.4 EU Directives
5.4, 5.4.1
- Objectives set by EU but member states can achieve them by any method decided by
national authorities
5.4.1 Banking
Activities authorised credit institutes can carry out – incl. acceptance of deposits,
lending, trading in money markets
5.4.2 Investment
5.4.2
- Aim: enable investment firms to operate in different EU states in approximately the same way
ஃ broaden markets across the EU
- Firms must be authorised in their home state & can then operate in other states without
further authorisation
restrict business transmitting order & giving advice on transferable securities &
collective investment schemes
transmit orders to authorised credit institutions, investment trust Co.s, collective investment
schemes & MiFID investment firms
Options
Transferable securities IR, currency, equity swaps
(stocks, shares)
Investments
Financial futures contracts Money market instruments
2 objectives:
1) Widest range of insurance products to EU citizens, while ensuring high
standard of legal & financial protection
1979 Life Directive – incl. life assurance, annuities, personal injury, incapacity to work, PHI
2nd Life Directive of 1990 – incl. rules to provide life assurance services
3rd Life Directive of 1992 (Life Framework Directive) – this EU directive incorporated into
Insurance Co.s (3rd Insurance Directive) Regulation 1994
- Arrangements for regulation & supervision depends on why the policy is taken out:
1) If taken out on applicants own initiative – countries regulation where insurance Co. is
2) If taken out as rules of state – regulated & supervised by that state
Limit business activities to insurance only
Submit scheme of operation
- To obtain authorisation Run by technically qualified people
Possess minimum guarantee fund
Notify identities of shareholders & amounts
- Financial supervision of insurer by its home state – incl. valuation of assets, liabilities,
verification & solvency
- May need local legislation in the state where insurance is sold, in relation to marketing & contract
- Policyholder can withdraw within the ‘cooling-off period’ ~ 14-30 days from the start of the
contract = Statutory cancellation notice (UK)
- Policyholders must be told essential characteristics of product in the Key features document (UK)
5.4.3.2 General Insurance
Across EU member states
1988: 2nd Non-Life Council Directive – rules for cross-frontier non-life insurance
- balance between freedom & customer protection
Regulation details
Intermediary hold 10% voting rights
Name & address /capital of insurance Co.s or vice versa
Information of
intermediary to client
Maximum early redemption charges on fixed-rate & Purchase of related products cannot be made a
capped rate loans condition of offer
No separate charge can be made for mortgage
indemnity guarantees
Legal
Decent – not cause offence
- Code requires advert is: Honest – not exploit people
Truthful
5.7 Banking Code
- Aim: set good standards of banking practice
- By British Bank Association & Building Society Association (March 1992) 5.7
- Both codes compliance reviewed by Banking Code Standards Board Under Business Banking Code
Under £1million
Deposit & Payment
savings a/c systems
Current a/c Cash mini-ISAs, TESSA-only ISAs
& cash-deposit Child Trust Funds
Products covered by code
Code commitments
Deal quickly &
sympathetically Help customer
if things go wrong Publicise code e.g. send statements
& train staff
Requirements
Information in summary e.g. fair & clear
Clear, fair, box card issued Communication
reasonable,
Reduce/increase/ Rules Bank information
not misleading
opt out credit limits sharing
Personal details Procedures Bank, branch
Terms &
not passed on closure
Charges conditions
Card procedures
Customers
not have to & PINs IR
Advertising Changing a/c’s
be contacted
& marketing Assistance
Financial
Information clarity difficulties Sympathetic,
New customers, Business operation covered positive
ID proof products & services by Banking Code Statement Cheques
ஃ individual firms charge reasonable pries & supply good quality products
Areas of concern: