Whenever I am asked why tax saving is important I explain that along with the right investment strategy the combination of these two factors will maximise the investment return for an investment portfolio even if the charges are relatively high.  Why is this so?


Well there are only three things that will determine the investment return of an investment  portfolio

  1. Charges
  2. Taxation
  3. Investment Strategy


Most of the focus by the media, the regulators, investors and even financial advisers is on charges which have by far the least impact on the investment return of these three criteria.  I accept that the only certainty of a fund is its level of charges.  No matter how great the investment strategy the fund will perform badly when markets perform badly.  Taxation rules change from time to time so even the tax efficiency of an investment strategy is not necessarily guaranteed.



However, the tax saving on a fund can be as high as 45% on income, 20% on capital gains and 40% on death (Inheritance Tax).  By contrast the level of charges can vary between say 0.1%-2% p.a.  Clearly the tax savings are far greater which is why tax saving is important.


As for investment strategy the difference in annual return between say the top funds and the worst ones could be 10% p.a. or more.  Again the extra returns possible for adopting the right investment strategy comprehensively exceed the savings you could make from investing in lower charging funds.


Research shows that the average hedge fund produces better returns net of charges than the average retail fund despite the fact that hedge funds have the highest levels of charges of all funds globally.  The reason for this is because hedge funds attract the very best fund managers who focus their attention on excellent investment strategies.



So the correct order of importance for these three factors is now

  1. Investment strategy
  2. Taxation
  3. Charges


So why the obsession with charges?  It beats me.  In all walks of life, there are businesses selling expensive products and services.  Generally speaking, the highest quality brands charge the highest fees and customers willingly pay the prices.  A walk down Old Bond Street and a visit to some of the jewellery shops will utterly amaze you.  You will find queues to enter into shops, some that require appointments, security guards at most entrances and one shop that will only let you view or try on their watches as you cannot buy them on the premises as demand is so high.  There is a waiting list of 18 months for their watches.  Top quality demands top prices.  Period.


Only in the investment world is there such an obsession with low charges.  The least important factor.  It is a race to the bottom.  Charges will continue to fall but investment performance will not improve unless you can attract and retain the very best fund managers and researchers.  You can only do that by paying them well, very well.  You cannot adopt that strategy when competing with other fund managers to minimise charges at the same time.  It’s like shopping in Old Bond St for a high quality watch and expecting to pay the price of a cheap watch.  Forget it.



So the next time you invest in a fund, focus on the investment strategy first and foremost, make sure you maximise whatever tax shelter is possible and don’t get hung up about above average charges.  I’ve always felt that it is the return net of charges that matters the most, not the charges per se.  You know it makes sense.*


*Risk warnings

The value of investments can fall as well as rise. You may not get back what you invest. The information contained within this article is for guidance only and does not constitute advice which should be sought before taking any action or inaction. You should always seek professional advice from a specialist.  All information is based on our current understanding of taxation, legislation, regulations and case law in the current tax year. Any levels and bases of relief from taxation are subject to change. Tax treatment is based on individual circumstances and may be subject to change in the future. This blog is based on my own observations and opinions.



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