Most of us respond better to deadlines, so the looming financial year-end on 5th April offers an urgent prompt about several sound planning steps investors need to consider and perhaps act upon in the coming weeks. This is particularly true for high earners, who could find themselves paying punitive rates of tax unnecessarily.
- Consider investing in your pension and carry forward
Managed correctly, making pension contributions can be a very effective way for high earners (and particularly business owners) to reduce income tax liabilities in the current financial year.
At present, most people can contribute up to £40,000 gross in a year – assuming they have sufficient taxable earned income – and in most cases receive income tax relief at their marginal rate on contributions. If you have had a particularly good year and have not maximised pension contributions in the previous three years you can carry forward any unused allowances into this tax year. In theory, this means an individual could make total contributions of up to £170,000 this way. There are complications, though, so you should take advice, as exceeding your contribution limits could lead to an unwelcome tax charge.
Some people may find their pension pots pushing or exceeding the lifetime allowance, which was reduced in April 2014 from £1.5m to £1.25m and again in April 2016 to just £1m. Clients worried about this should contact us.
Remember, you can also save into a stakeholder pension for a child (or grandchild). You can currently invest up to £3,600 gross each tax year and pay net of basic rate tax an amount of £2,880. The tax man will add the extra £720. The pension provider applies to HMRC and collects the cash top-up.
- Use ISA allowances for all the family
Individual Savings Accounts, or ISAs, are a generous gift from the taxman (and generous and taxman are not words that normally go together, so it’s worth paying attention!). Wrapping your savings within ISAs can save you thousands of pounds in tax and even administrative aggravation. Each of us is allowed to put £15,240 in cash or investments within an ISA wrapper in the current tax year. Under-18s can save £4,080 into a Junior ISA. Parents – or guardians with parental responsibility – must open the account on behalf of the child and manage it (grandparents cannot) but the money belongs to the child, who can withdraw it when they turn 18. You might also consider a bare trust for children.
Saving regularly into an ISA can add up over the long term. These investments can grow free of capital gains tax, and the income derived from them is free of income tax for the rest of your life (making them a useful retirement planning tool).
You cannot use previous years’ allowances retrospectively, so this is a use-it-or-lose-it benefit each year.
The ISA subscription allowance is due to be increased again to £20,000 for 2017-18, presenting further planning opportunities. You can either add to your ISA with new money, or perhaps pursue a strategy – known as “bed and ISA” – of gradually migrating your existing non-ISA investments into the wrapper while using your annual CGT allowance. This enables to you to retain the growth prospects of your portfolio, while simultaneously improving their tax efficiency. If you have instructed your manager to do this and used your full allowance for the year, don’t forget! You can’t suddenly then open a cash ISA as well.
The value held in ISAs at the date of death of a deceased spouse can now be inherited by the surviving spouse too, so it often makes sense to use both partners’ allowances each year if you can afford it. The other advantage of ISAs is that you do not have to include them on your tax return, which can save hassle.
- Use Capital Gains Tax (CGT) allowances
Many people with assets outside pension and ISA tax wrappers forget about their CGT allowance (or “annual exempt amount” as it is technically known).
When you sell assets held outside a tax wrapper you may crystallise a gain, making yourself liable for as much as 20% CGT (still 28% on residential property if it is not subject to private residence relief). Over the long term this can have a big impact. I have seen people go into care who have had to sell long-held assets to cover costs, paying significant CGT bills at the point when they could least afford them.
Where possible, the response is to rebase the cost of these assets regularly before the growth exceeds your CGT allowance. You can sell traded assets and buy them back immediately in an ISA. You can also “bed and spouse them” – selling them and then buying them back immediately in your spouse’s name. But you cannot do what advisers used to call “bed and breakfast”, whereby you just sold them and bought them back immediately in your own name and without the ISA wrapper. If you are planning to do that you will have to wait 30 days after the sale before you can repurchase them, which could expose you to market risk.
It is always wise to mitigate your tax liability – but don’t let the tax tail wag the investment dog, which could encourage you to take risks you would not otherwise.
- Pool assets
Try to avoid one partner being the sole owner of all your savings, as this prevents you taking advantage of the various allowances available to both of you and can result in you paying tax unnecessarily. Each spouse has a CGT allowance of £11,100 and a personal income allowance of £11,000. You each have a dividend allowance too, which means you do not have to pay tax on the first £5,000 of your dividend income. Basic-rate taxpayers each have a personal savings allowance of £1,000 which they can earn in untaxed interest (higher-rate taxpayers have a £500 allowance, but additional-rate taxpayers go without).
From next year individuals can also earn up to £1,000 in income from selling goods or providing services and a further £1,000 allowance on income from owned property.
These all add up, and by planning ahead and managing their money smartly couples could benefit hugely – especially if in or approaching retirement.
- Tidy your wills while you are at it
While you are reviewing your finances, it is also good to check if your wills are up to date, put in place powers of attorney and ensure your pensions and other assets have been assigned a nominated beneficiary or successor.
- Buy-to-let changes
It is worth reminding buy-to-let landlords that from April they will no longer be able to claim tax relief on all their mortgage interest payments. Mortgage interest tax relief will gradually be cut back to 20% between 2017 and 2020. The effect of this is that if you are an additional-rate taxpayer and mortgage interest reaches 68% of rental income, the new tax changes will wipe out all your profit. This is on top of the changes introduced from April 2016 that mean it is no longer possible to deduct 10% of rental profits as notional wear and tear – you can claim tax only on costs incurred.
On top of that, landlords selling a property from April 2019 will be liable to pay CGT on any profits within 30 days of a sale. And CGT remains payable at the previous higher rate of 28%.
Not surprisingly, many of our clients who own properties are beginning to wonder if it is worth it. We are happy to discuss alternative ways of managing investments that might be more appropriate in the prevailing climate.
You should not act on this content without taking professional advice. Opinions and views expressed are personal and subject to change. No representation or warranty, express or implied, is made of given by or on behalf of the Firm or its partners or any other person as to the accuracy, completeness or fairness of the information or opinions contained in this document, and no responsibility or liability is accepted for any such information or opinions.
The value of an investment and the income from it can go down as well as up and investors may not get back the amount invested. This may be partly the result of exchange rate fluctuations in investments which have an exposure to foreign currencies. Fluctuations in interest rates may affect the value of your investment. The levels of taxations and tax reliefs depend on individual circumstances and may change. You should be aware that past performance is no guarantee of future performance.