PIES vs DIRECT INVESTMENTS: WHAT’S BETTER?

PIEs vs Direct Investments: What’s better? Firstly, let’s define the two categories:

Understanding PIE Managed Funds

A Portfolio Investment Entity (PIE) is an investment structure introduced in New Zealand to encourage collective investment while providing tax efficiencies. PIEs pool money from multiple investors to invest in a diversified portfolio of assets, including cash, shares, bonds, or property. This structure is commonly utilized in KiwiSaver schemes and other managed funds.

The primary advantage of PIEs lies in their tax treatment. Income earned within a PIE is taxed at the investor’s Prescribed Investor Rate (PIR), with a maximum rate of 28%. This can be particularly beneficial for individuals in higher income tax brackets, as it potentially reduces the tax payable on investment returns.

Direct Investment in Shares and Bonds

Direct investment involves purchasing shares of companies or bonds without intermediaries. This approach offers investors direct ownership and control over their investment choices, allowing for tailored portfolios that reflect personal preferences and risk tolerance. However, direct investments require a comprehensive understanding of the markets and individual securities, along with ongoing management and monitoring.

Tax Implications: PIEs vs. Direct Investments

One of the most significant considerations when comparing PIE managed funds to direct investments is the tax treatment. For direct investments, income such as dividends and interest is taxed at the investor’s marginal tax rate, which can be as high as 39% for high-income earners.

In contrast, income earned within a PIE is taxed at the investor’s PIR, capped at 28%. This means that individuals in higher tax brackets can benefit from a lower tax rate on their investment income by investing through a PIE. For example, an investor with a marginal tax rate of 39% would pay only 28% tax on income earned within a PIE, resulting in significant tax savings.

Furthermore, PIE income is generally excluded from the investor’s personal tax return, simplifying tax reporting and reducing administrative burdens.

Diversification and Risk Management

PIE managed funds inherently provide diversification by pooling investments across a broad range of assets. This diversification helps mitigate risk, as poor performance in a single investment has a limited impact on the overall portfolio. For individual investors, achieving similar diversification through direct investments would require substantial capital and continuous management.

Diversification is a fundamental principle of risk management in investing. By spreading investments across various asset classes, sectors, and geographies, investors can reduce the impact of any single underperforming asset on their overall portfolio. PIE managed funds facilitate this diversification, making it accessible to investors with varying levels of capital and expertise.

Professional Management

Investing in PIE managed funds provides access to professional fund managers who possess the expertise and resources to make informed investment decisions. These managers conduct thorough research, monitor market trends, and adjust portfolios as needed to optimize returns and manage risk. For individual investors, replicating this level of management through direct investments can be challenging and time-consuming.

Advantages of Professional Management

• Expertise: Fund managers have extensive knowledge of financial markets and investment strategies, enabling them to identify opportunities and manage risks effectively.
• Resources: Professional managers have access to research, analytics, and tools that individual investors may not, allowing for more informed decision-making.
• Time Efficiency: Delegating investment decisions to professionals frees up time for investors, who may not have the capacity to manage their portfolios actively.

Cost Considerations

While PIE managed funds offer numerous benefits, they also come with management fees and expenses that can impact overall returns. Investors should carefully assess these costs in relation to the value of professional management and diversification provided by the fund. In some cases, the tax advantages and potential for higher after-tax returns may outweigh the associated fees.

Conversely, direct investments may have lower ongoing costs, as they do not involve management fees. However, investors must consider transaction costs, such as brokerage fees, and the potential costs associated with managing their portfolios, including time and resources dedicated to research and monitoring.

Flexibility and Control

Direct investments offer greater flexibility and control, allowing investors to tailor their portfolios to specific preferences, ethical considerations, or investment strategies. This autonomy can be appealing to experienced investors who prefer a hands-on approach. However, it also requires a higher level of involvement and expertise to manage effectively.

PIE managed funds, while offering less direct control over individual investment choices, provide a structured approach managed by professionals. This can be advantageous for investors who prefer a more passive investment strategy or lack the time and expertise to manage a diversified portfolio independently.

Accessibility and Minimum Investment Requirements

PIE managed funds often have lower minimum investment requirements compared to direct investments, making them accessible to a broader range of investors. This accessibility allows individuals to participate in diversified investment opportunities without the need for substantial capital.

Direct investments, particularly in certain asset classes or markets, may require significant capital to achieve adequate diversification. This can be a barrier for some investors, limiting their ability to build a well-rounded portfolio.

Regulatory Oversight and Transparency

PIE managed funds are subject to regulatory oversight, ensuring adherence to specific standards and providing a level of investor protection. This oversight includes requirements for transparency, reporting, and compliance with investment guidelines.

Conclusion: Choosing the Right Investment Approach

When deciding between PIE managed funds and direct investments in shares and bonds, investors must consider factors such as tax efficiency, diversification, risk management, cost, and control. PIE managed funds offer significant tax advantages, professional management, and built-in diversification, making them an attractive option for those seeking a hands-off investment approach with potentially lower tax obligations.

On the other hand, direct investments provide greater flexibility and control, allowing investors to tailor their portfolios to their preferences. However, they require a higher level of expertise, time, and capital to manage effectively.

For investors seeking a balanced approach, a combination of both options may be the best strategy—leveraging the tax benefits and professional management of PIEs while maintaining some direct investments for strategic opportunities. Ultimately, the right choice depends on individual financial goals, risk tolerance, and investment experience.

Next Steps

We recommend you check out InvestNow’s angle on this; see also this article; talk to your financial advisor, and of course, contact us.