There’s a lot of financial language out there, but it makes sense to start with some of the most common words and themes. Two of the most important things to understand when you begin investing are how tax-efficient wrappers (such as ISAs) work, and the jargon that surrounds which investments you choose within the wrappers. With this in mind, here are some of the most important terms you’ll need to understand to be a confident investor.
These are nothing to do with chocolate bars and everything to do with making sure your investments work as hard for you as possible. Wrappers sit around your investments, ensuring you don’t pay too much tax on your hard-earned money. Within them, some of the rules that would normally result in the taxman taking a slice of your nest egg don’t apply, so it is worth finding out what they mean. Top wrappers to know about include:
ISAs: Probably the best-known way of sheltering your money from the tax authorities. Once you’ve opened an ISA, you can use the money within it to invest in various types of assets, or use your ISA to save in cash. You can swap between different types of ISA if you like and at present you can put £20,000 a year into ISA wrappers. Your allowance can be placed fully in a stocks and shares ISA, a cash ISA or a combination of the two, dependent upon your risk appetite. Stocks & Shares ISAs give you access to different types of investment, meaning you get cost-effective diversification. BMO’s ISA, for example, provides the option of investing in 10 different investment trusts covering equities, bonds and property. Investing in a stocks and shares ISA, however, introduces a level risk and you may not get back the amount originally invested.
LISAs: Or Lifetime ISA. This is a special type of ISA aimed at those saving for a new property or for retirement. The ISA, available only to those under 40 enables eligible customers to put in up to £4,000 a year until they are 50. The government will add a bonus of 25pc of the money you put in, up to a maximum of £1,000 a year. As with other ISAs, you won’t pay tax on any interest, income or capital gains from cash or investments held within it. However, you can only take the money out to buy your first home or when your reach the age of 60. The LISA isn’t an additional allowance above an ISA, the £4,000 allowance counts towards the overall £20,000 yearly ISA allowance.
SIPPs (Self Invested Personal Persions): A SIPP wrapper allows you to benefit from the considerable tax breaks available to those saving for their old age, while managing the investments within the SIPP yourself. You can put up to £40,000 into a SIPP each year andthe Government will automatically add 20pc basic-rate tax to it. If you pay higher-rate tax you can reclaim the rest of the tax you paid on your pension contributions through you tax code. You can only get the money out at the age of 55 though, and this age is rising. You’ll be taxed on it as you take it out, but the first 25pc of withdrawals is tax-free.
These details are, of course, subject to change and tax treatment depends upon your individual circumstances.
Within the wrappers mentioned above, you’ll be able to choose from lots of different types of investment. There’s plenty of jargon surrounding this process too, but it’s basically a case of understanding how much risk you want to take with your money and how different types of investments correlate with that risk. Some of the most important terms you’ll come across are:
Funds: Funds are one way of ensuring that your investments are spread over lots of different companies, by pooling your money with other investors and then buying shares in lots of different businesses. Funds come in sever flavours. Tracker funds do what you expect – they track the performance of a certain market. This is often an index such as the FTSE 100, or the US Dow Jones. These are also known as Passive funds because they do not do anything other than follow what the market does. Active funds, on the other hand, aim to beat the market with the help of a fund manager, who will pick stocks that she or he thinks will make money, and sell them when he or she thinks they are no longer a good idea.
When deciding what to invest in, you may want to consider asset classes, which are different types of investments. They include bonds, which are instruments issued by companies or governments, as well as shares, which are stakes in a company that are bought and sold on a stock exchange. Another word for shares is equities. Other asset classes include commodities, which are products that go up and down in value such as metals, and agricultural produce such as sugar, cocoa and even pigs.
Understanding about dividends is another important part of investing. These can be made as cash payments given by companies to their shareholders. They include interim dividends (paid six months through a company’s financial year) and final dividends (paid at the end of the year). Companies can also pay special dividends if they have extra cash that they want to return to their shareholders. Shareholders may also receive their dividends in the form of stocks or property depending on the investment. Some dividends – such as those in BMO’s High Income Trust – are paid quarterly. You can decide whether to reinvest your potential dividends into your trust or ISA, or spend them. Dividend income isn’t guaranteed, may fluctuate and may be paid at the expense of capital.
‘This article written by Rosie Murray-West was first published on the Telegraph here.