Article from the Money Facts
What are Unit Trusts, Investment Trusts and OEICs?
Chances are that if you’re looking at this page, you’ve got a fair idea already what you’re looking for. But if not, it’s probably useful to provide an explanation of what unit trusts, investment trusts and OEICs – which together are also known under the term “collective investments” – actually are.
Collective investments can be better than investing directly yourself. This is because you can benefit from a greater spread of different investments (which reduces investment risk) as well as from reduced dealing costs due to the economies of scale you can get with large-scale investment transactions.
Unit Trust
A unit trust allows you to invest an initial lump sum, or regular contributions, or a combination of the two. The trust is divided into units; each unit is worth a fraction of the total assets that the trust owns. As the value of these assets increase (or decrease), so does the value of your units. You can purchase more units if you want to.
Investment Trust
It may surprise you to learn that an investment trust is not a trust at all – it’s actually a limited company! The investment trust buys shares in other companies and you in turn buy shares in the investment trust. To “get out” of this investment, you need to sell your shares in the investment trust to another investor. A key difference between a unit trust/OEIC and an investment trust is that an investment trust can borrow money long term, to take advantage of investment opportunities – however, the ability to earn this greater reward, comes with the risk of losing more money should the investment not perform favourably. When selling shares you have in an investment trust, you may have to pay Capital Gains Tax. You can find out more about investment trusts by requesting a free guide.
Open Ended Investment Company (OEIC)
An OEIC, like an investment trust, is also a limited company that invests in other companies. As with an investment trust, you buy shares in the OEIC; however, unlike an investment trust, an OEIC has an unlimited number of shares, allowing you to buy as many as you wish. An OEIC can only borrow money for a short term, so can’t take advantage of investment opportunities like an investment trust can. When cashing in shares from an OEIC, you may have to pay Capital Gains Tax.
All income received from a unit trust, investment trust or OEIC (unless part of an equity ISA) is subject to Income Tax which, if you are a Basic Rate Taxpayer, is deducted before you receive your money (if you don’t pay tax you can’t reclaim this amount). If you are a Higher Rate or Additional Rate Taxpayer, you will need to pay a further 22.5% or 32.5% Income Tax respectively (based on the 2010/2011 tax year). If your investment is an OEIC, you may have to pay Capital Gains Tax on any growth your shares have achieved.
How does investing in an investment fund directly, and investing in an investment fund using an equity ISA differ?
If you invest directly in a unit trust, investment trust or OEIC you will have to pay Income Tax on any income you receive from your investment, you may also have to pay Capital Gains Tax (with an Investment Trust and OEIC). With an equity ISA (also known as a Stocks and Shares ISA) you are exempt from any Income Tax or Capital Gains Tax liability, making this a much more tax efficient way to invest, especially for Higher Rate and Additional Rate Taxpayers.
In 2010/2011 the maximum you can invest using your equity ISA allowance is £10,200 per year. Alternatively you can choose to have up to £5,100 of this allowance invested into a cash ISA, meaning you can invest up to a further £5,100 into an equity ISA.
An equity ISA can invest into unit trusts, investment trusts and OEICs but can also directly invest in shares and corporate bonds, as well as lower risk government securities known as gilts.
