Investment: Suck it and see!

How thinking of boiled sweets can put tax in its place

When investors are disappointed by the returns on their investments they often blame their ISA or pension. But it is almost certainly the underlying investments that will be to blame.

An investment can be thought of as having two parts: the tax wrapper and the underlying investment.

The tax wrapper determines how the underlying investments are treated by HM Revenue & Customs. Usually the tax wrapper is designed to protect your money from the clutches of the tax man.

An ISA is an example of a tax wrapper. Money in an ISA grows (largely) free of tax and there is no income or capital gains tax to pay when you take money out.

The money inside the ISA will either be saved in cash or invested in funds. It is the performance of this cash or funds which will decide whether the investor’s experience is a good one or not.

It may help you to think of a boiled sweet which also comes in two parts

The sweet wrapper, which keeps the sweet fresh, is like the tax wrapper which keeps your underlying investment fresh by reducing the tax paid.

The sweet inside, which comes in different flavours, is just like the underlying investment, which comes in different investment types. Just as a sweet can be too sour or too sweet, an investment can be too risky or boring for individual investors.

Tax is not as important as getting the right investment flavour or having low investment costs.

Investment administration systems now make organising your investments in a tax-efficient manner a mere formality.

So remember, concentrate on the flavour not the wrapper!