Diversify your portfolio without selling existing shares

With Instalment Warrants (Westpac SFIs) you can maintain your exposure to your current shares whilst freeing up capital to grow and diversify your portfolio without triggering a CGT event.

Often we hesitate to sell shares in a particular company as a way of diversifying because we want to maintain our exposure to that company and we’re concerned about a potentially large capital gains tax (CGT) liability arising on the sale. But Westpac SFIs offer a possible solution.

A worked example

Tim’s concentrated holding Tim is 50 and in the top marginal tax bracket. Over time, he has built up a $500,000 direct share portfolio outside super that he plans to use to help fund his retirement. Like many Australians, Tim has invested heavily in the resources sector and he currently has a large allocation (around 50% of his total share portfolio) to BHP Billiton Limited (BHP). Tim and his financial adviser decide that whilst they want to retain a holding in BHP, it would be a good idea to diversify across additional companies/sectors to help manage his portfolio risk.

Diversifying Tim’s portfolio

Tim has a couple of options to change his portfolio allocation:

  • Option 1 – sell some of his BHP shares and use the proceeds to reweight his portfolio. This option will trigger CGT.
  • Option 2 – use Westpac SFIs as follows:2

As a security holder applicant, Tim converts his BHP shares to the equivalent number of Westpac BHP SFIs (BHPSWG).

  • He receives a cash payment from Westpac (which represents the SFI loan amount, less the initial interest amount and borrowing fee). He can then use this cash payment for investment purposes, such as buying additional shares.
  • Tim has retained his exposure to BHP, unlocked some equity and, as there is no change in beneficial ownership on the original BHP shares, no CGT should be payable.1

How do you convert shares to SFIs?

Tim’s current BHP holding:◦He currently has $296,000 worth of BHP shares. He holds 8,000 shares and the current share price is $37.00.

  • If Tim converts his BHP holding to BHP SFIs:
  • The cash payment per share is simply the difference between the share price and the Westpac SFI price (SFI loan amount, less the initial interest amount and borrowing fee).
  • The higher the SFI gearing level, the more cash is ‘extracted’ (i.e. the higher the loan amount).

Why use Westpac SFIs?

  • Without selling any shares, Tim has the opportunity to reweight his portfolio and, at the same time, has potential to increase his total share market exposure by $164,400 (from $500,000 to $664,400).
  • He increases the opportunity for diversification in his portfolio by unlocking and investing the $164,400 into other investments (such as shares).
  • He retains beneficial ownership of his 8,000 BHP shares so will continue to benefit from any capital growth in BHP and any dividends paid (which will be used to offset the interest on his loan) and associated franking credits. The franking credit entitlement is subject to the holding period rule.
  • When he converts his BHP share holding to an SFI as a security holder applicant, he doesn’t need to sell his BHP shares so no CGT should be payable

The table below provides a summary of the outcomes

Security

Number of Units

 

Security Price

Value

Exposure

Before SFI Investment

BHP

8,000

$37.00

$296,000

Other

$204,000

$204,000

Total

$204,000

After SFI Investment

Convert to SFI's

BHPSWG

8,000

$16.45

$131,600

$296,600

$164,400

$164,400

$460,400

$204,000

$204,000

Total

$664,400

This example is for illustrative purposes only and uses rates and figures that we have selected to demonstrate how the product works. It cannot be relied upon as any indication of the outcomes of the investment. Past performance is not a reliable indicator of future performance. Prices as at 13 August 2013. BHPSWG Warrant Bid Price $16.45. Security Holder Cash Back $20.55 per share. This case study assumes that the adviser has not charged any adviser service fee and that brokerage costs were not applied.

With Westpac SFIs you can:

  • Build a portfolio of shares and ETF exposure for less initial outlay.
  • Use a conservative gearing strategy to accelerate your returns without margin calls or the need for a credit assessment.
  • Enjoy the benefits of direct share ownership including the potential for capital growth, dividends and franking credits.
  • Access a low maintenance investment. There are no annual payments to make as interest (offset by any dividends) is added to the loan amount each year.
  • Buy and sell SFIs on the ASX.

But you can’t ignore the risks

  • If the price of the underlying security falls, the price of the SFI will generally fall. Gearing can magnify losses as well as gains.
  • The interest that Westpac capitalises to the loan may be higher than the dividends received from the underlying securities, causing the loan amount to increase.
  • Any rise in interest rates will increase the amount added to the loan as interest.
  • Tax legislation may change and affect any tax benefits or obligations.

These are not all the benefits and risks of investing in Westpac SFIs. Please see the Product Disclosure Statement (PDS) for more information.
 

1 The solution assumes that the ATO will accept tax returns lodged by investors on the basis that the investor is to be treated as holding the securities directly for CGT purposes, even though those securities are held by the Security Trustee on trust for that investor. This is consistent with the ATO announcement on 4 November 2010. The Government has announced that it will amend the income tax law to confirm the practice of treating the investor in a Westpac SFI arrangement over a security as the owner of that security for income tax purposes. However, draft legislation in relation to these amendments have not yet been released. Prospective investors should monitor developments.

2 This option is not available to SMSFs.

How can we help you?