It is important to be aware that a pension is not the only investment that can provide you with an income once you are retired. There are many other options open to you.
However, with the myriad of investment trusts, equities and funds available, it can be difficult to decide which is the most appropriate for you. Here we look at five different investment choices you should seriously consider.
An equity income fund is a mutual fund made up largely of securities from established, creditworthy companies that make consistent dividend payments.
Some equity income funds will only invest in stocks with certain dividend yields, or they will invest in stocks with certain characteristics such as minimum credit rating thresholds. Because of this, equity income funds are generally considered conservative investments.
However, for income investors with a longer-term horizon, equity income funds can often offer high returns compared to bond or money market funds. They form a way of diversifying bond-heavy portfolios while at the same time allowing scope for capital growth.
Another benefit rests in the fact there are fewer transactions and trading fees involved with an equity income fund. This makes them less expensive than investing in several different dividend-paying stocks as part of a larger portfolio.
Investment trusts are collective funds that are listed on the stock exchange. They are especially suited to retirement income in that many contain a dividend growth policy.
Companies providing investment trusts have a structural advantage over other types of collective investment because they are in a position to divert the income they receive into revenue reserves, which in turn helps boost annual dividends; especially during any difficult years.
The process is called, ‘dividend smoothing’ and enables investment companies to pay and boost dividends no matter the overall economic climate.
Another positive aspect of an investment trust is that they can be traded at a discount or a premium to their net asset value.
Investment trusts can also be borrowed alongside shareholders’ funds. This system is known as gearing, and allows for greater investment flexibility. When markets are rising, gearing allows for an increase in potential profits, the same system also boosts potential losses if the market is falling.
Commercial property funds usually pay a better annual income than you may receive from a typical savings account. They also present an opportunity for future capital gains if and when property prices rise.
Another positive factor is that returns from commercial property tend to more stable that those from equities.
Whereas residential landlords have to cover the cost of management charges, insurance and maintenance themselves, these charges are absent for the majority of commercial landlords. They are able to pass these costs on to the tenant, which effectively creates a higher net income.
However, as with most types of investment, commercial property funds are not without risk.
Lengthy troubled economic times can see commercial tenants unable to pay rent. In some instances they may even go bankrupt, meaning the property remains empty.
Another issue that investors should consider is that of stamp duty. The initial investment can end up incurring a 4% cost to cover this.
Furthermore, it is recommended that any physical commercial property fund should hold back a contingency of at least 20% in cash or property shares. This will counter any delay accessing money, should the fund be forced to sell property to meet any significant redemption.
Buying residential property to rent out has always been a popular method for investors to boost their retirement income.
Residential investment provides both an income and the opportunity for capital appreciation in the rise of property prices.
However, with rental property there comes the risks and responsibilities inherent with being a landlord.
A rental property owner must always be prepared for ‘void’ periods when in the absence of any tenants there will not be any income. There are also the ongoing maintenance costs and/or management charges to consider.
An alternative option if you have the majority of your wealth tied up in your own home is to consider an equity release scheme.
An equity release plan provides income by releasing cash from your home. This is normally through a lifetime mortgage or home reversion plan.
With a lifetime mortgage, the loan and interest are rolled up and usually repaid once you die or enter long-term care.
Alternatively, a home reversion plan works in that money from your property is released through the sale (in whole or in part) of your property to a home reversion provider.
The drawback of equity release is the fact you are reducing the overall amount of your asset base. The value of your estate when you die is also reduced to the detriment of the amount of inheritance you can leave.
A Venture Capital Trust (VCT) is a trust that aims to make money by investing in other companies.
These are typically very small companies that are looking for further investment to help develop their business. In practice, VCT’s are a high risk, high gain type of investment. However, there are very strict rules on how Venture Capital Trusts can invest your pooled money in order to qualify as VCTs.
VCT’s also offer significant tax benefits, as income tax relief is given at 30% on annual contributions of up to £200,000 provided the VCT is held for at least five years.
Furthermore, there is no tax on gains, regardless of how long you hold the VCT, and no income tax on dividends.
Despite these benefits, the high-risk nature of VCT’s does mean they are not suitable for all types of investor.
They are best suited to investors with a large enough tax bill to benefit from the initial relief on contributions and an appetite for risk. Cautious investors seeking steady returns should stay clear.