Get your planning right for the tax year end

Specsavers bill board

If there is one time in the year when we should pay special attention to our financial planning it is this. Why? Well simply because another tax year is coming to an end on 5 April. A number of tax allowances are like the special bread that the Israelites ate during their wilderness years. If they did not make use of it during the allotted period it was wasted and of no further to use to them. The same is true of some annual tax allowances.

Now it is important that we don’t leave everything until the last moment. This causes unnecessary stress and unexpected issues at the last minute may not be able to be resolved in time. This year in particular, when so many of us are spending much more time at home, provides an ideal opportunity to get our planning done right and in good time.

What is the deadline?

To plan anything you first need to establish the deadline if there is one. The last day of the current tax year is Monday 5th April. However that is Easter Monday and so no offices will be open to receive any last minute paperwork. In fact the last working day of the tax year is Thursday 1st April. Large numbers of staff in insurance and investment companies are still likely to be working from home. It is therefore very likely to be a real April Fools Day for anyone relying on getting paperwork processed on that day.

So realistically we could be setting Monday 29 March as our prudent deadline. That is 10 weeks away which may seem a long time and therefore you may feel that you can leave this particular exercise on the back burner. So let me shorten it a bit further for you! The cycle of a Spring Statement followed by an Autumn Budget has currently been broken due to the coronavirus pandemic. So the Budget that we should have had last Autumn is now scheduled to take place on 3 March. Let me suggest, therefore, that it would be prudent to assume a ‘tax year end’ for your planning in just 7 weeks’ time, on Tuesday 2nd March, rather than 10. This is not far enough away to cause panic but near enough to set aside a few hours now to get grips with what may need to be done.

We do know one thing

Now while we cannot know what the Chancellor, Rishi Sunak, will be including in the Budget we do know one thing. The budget deficit has ballooned as tax revenues have fallen and government spending has increased. The Office for Budget Responsibility (OBR) forecast a budget deficit of £394 billion in 2020/21. This is equivalent to 19% of GDP, which is effectively our total income as a country. This budget deficit is at the highest level since 1944/45.

But that is only part of the picture because as a nation we already had a mountain of debt. At the end of 2019/20 (i.e. early on in the pandemic) public sector net debt, which is simply the total amount we owe as a country, was £1,801 billion (i.e. £1.8 trillion), or 86% of GDP. This is equivalent to around £27,000 per person in the UK. Government’s borrowing during the coronavirus pandemic has meant that public sector debt has now risen above 100% of GDP for the first time since 1960/61 when Britain was referred to as the ‘sick man of Europe’.

The vastly increased level of government borrowing will need to be addressed at some stage. One way of doing this is by increasing tax. However, the Chancellor knows that if he makes significant changes to income tax, National Insurance or VAT he will simply further upset an economy which, on any scale, is currently something less than fragile. Of course, that is not to say that he won’t take that chance. But it would be a bit like increasing the rent for your lodger who has recently been made redundant.

There are some softer targets for the Chancellor to address and these include capital gain tax, pensions allowances and inheritance tax. There is, of course, no way of knowing how the balance between fiscal necessity and political pressure will play out on the day.

Let me remind you of the areas you might need to consider in your tax year end planning.

(1) ISA Allowance

Individual Savings Accounts (ISAs) are tax exempt Cash and/or Stocks and Shares accounts under which income received in the form of interest and dividends is free of tax and on which there is exemption from capital gains tax on any capital growth. The ISA allowance for 2020/21 is £20,000 and this is the total you can invest in any combination between Cash and Stocks and Shares ISA accounts.  

With interest rates at all time lows and inflation almost certain to increase, this is a good time to top up your Stocks and Shares ISAs. Don’t leave it until the end of February or March as the weight of money being invested at that time tends to increase share and unit prices so you get less investment for your money.  

If you don’t have sufficient cash to invest, are there investments you have which would be better held within a Stocks and Shares ISA?   For further information on ISA accounts

(2) Personal Allowance

Do you have a spouse who is not making full use of his or her Personal Allowance, which is £12,500 in 2020/21? Can you transfer any income source such as rental income to your spouse to obtain more tax free income as a couple?  

If, looking ahead, this could be your position in retirement how about making pension contributions for your spouse now to build up their income rather than yours.   For further information on Income Tax  

(3) Personal Allowance Transfer

If you have an income below the Personal Allowance of £12,500, you can transfer up to 10% of your unused personal allowance to your spouse provided they are a basic rate taxpayer. This reduces their tax by up to £250 in the tax year. Obviously this works in reverse if your spouse has the low income.  

An election to do this can be made up to four years after the end of the relevant tax year, and thus a transfer can still be made for 2016/17 providing the claim is made by 5 April 2021.

(4) Tidying up investments

Do look to see if you have any poorly performing investments or are holding more than you need for an emergency fund in cash accounts. A good tidy up can do wonders for lacklustre savings and investments.

(5) Personal Savings Allowance

Basic rate tax payers have a tax-free allowance of £1,000 for interest payments. This is reduced to £500 for higher-rate taxpayers and there is no allowance for additional-rate taxpayers. Are you making the best use of this allowance? Do you need to transfer cash holdings from a higher-rate tax payer to a basic-rate tax payer?

(6) Dividend Income Allowance

All taxpayers receive a £2,000 tax-free allowance for dividend income. Are you making the best use of this allowance? Do you need to transfer funds to your spouse to equalise your investment holdings?

(7) Annual Allowance for Pension Contributions

Basic rate tax relief (currently 20%) is allowed for when you pay your pension contributions.  If you are eligible for higher rate or additional rate tax relief you will claim this via your self assessment tax return.  

The annual pensions allowance for 2020/21 is £40,000, or your income from employment or self employment if lower.   

The annual allowance can be reduced to £10,000 or even £4,000 if your income exceeds £150,000 or £240,000 respectively.

If you have no income from employment or self employment and you are under age 75 you can still put £2,880 into a pension plan which the Government will increase to £3,600 whether you currently pay tax or not.   For further information on Personal Pensions    

(8) Carry Forward of Annual Allowance

If you will be making the maximum pension contribution of £40,000 (i.e. £32,000 net) in 2020/21 have you also used the carry forward rules in order to benefit from any unused allowance from the previous three tax years?

(9) Do you collect Child Benefit and have an income in excess of £50,000?

The Government recovers some or all of any Child Benefit claimed where your annual taxable income (or that of your partner) exceeds £50,000. The income tax charge will be 1% of your Child Benefit for every £100 of income between £50,000 and £60,000.  

If you think this might be the case in 2020/21 consider increasing your pension contributions or asking your employer to make pension contributions on your behalf in exchange for reducing your salary. This will not only give you tax relief on the pension contributions but could reinstate your full Child Benefit. You can also increase any Gift Aid payments you make to achieve the same effect.

(10) Capital Gains Tax

Tax on your investment gains is currently charged at reasonably low rates. These are 10% for a basic rate tax payer and 20% for a higher rate tax payer and therefore especially attractive if you are a basic rate tax payer. If you were to sell a second home the tax has been kept higher at 18% and 28%.

One of the most basic tools for good capital gains tax planning is the annual exempt amount which for 2020/21 is £12,300. If you are married both you and your spouse each have an annual exemption.  It is therefore beneficial for you to hold chargeable assets in joint names. The effect would be that, currently, gains of £24,600 can be covered.  

If you have investments held outside of an ISA or pensions you should investigate transferring these to use up any unused ISA allowance. This is referred to as Bed and ISAing. If both you and your spouse have investments outside of ISAs and pensions you could transfer some of these to each other. This is referred to as Bed and spousing. The objective to reduce the build up of capital gains.  For further information on Capital Gains Tax

(11) Inheritance Tax

Being aware of a tax that may take a large portion of the funds earmarked for others on your death (and even during your lifetime) is only good sense, especially as steps can be taken to reduce its impact or remove it all together.  

If you are single and without children then everything you leave over £325,000 (apart from to charitable or political organisations) is currently taxed at 40%. If you are married with your own home and children then you can leave up to £1m before inheritance tax is charged. Of course, depending on the value of your home, you may find that there is not a great deal of room to leave other assets tax free in excess of its value.

Making gifts is one of the easiest ways to reduce inheritance tax on your estate. The first £3,000 of gifts that you make in any tax year (the Annual Exempt Amount) is free of inheritance tax.  You can also make regular gifts out of your income provided you are left with sufficient income to maintain your normal standard of living. An excellent way to do this is to invest for grandchildren into Junior ISAs. The maximum per child in 2020/21 is £9,000.

Larger sums that you pass to children, grandchildren and others during your lifetime are usually classed as potentially exempt transfers (PETs). If you make a PET and survive for seven years after making the gift it becomes an exempt gift and no inheritance tax is due. I have had experience of clients dying just a few weeks short of the seven years and so this is something to do sooner rather than later to get the clock ticking as it were.   For further information on Inheritance Tax    

(12) Venture Capital Trusts (VCTs)

VCTs are high risk and therefore not a suitable investment for most people. A VCT is a fully quoted public limited company whose purpose is to invest the majority of its shareholders’ funds in unquoted growth companies. The objective is to make substantial capital profits when those investments are subsequently realised by flotation or trade sale. However, it is important not to ‘let the tax tail wag the dog’.

If you are able to accept the risk then VCTs do have their uses. Let us say that you will have earned £40,000 in 2020/21. You will pay around £5,500 in income tax. If you invest £15,000 in a VCT you will receive a tax rebate of £4,500. Future dividends will be tax free and there will be no capital gains on your investment.   For further information on Venture Capital Trusts

(13) Will your income be over £100,000?

Where your income is above £100,000 your personal allowance is gradually reduced by £1 for every £2 of annual income over £100,000. Therefore once your annual income is over £125,000 you will have no personal allowance.  

As a consequence the marginal rate of tax for your income that falls between £100,000 and £125,000 is actually 60%. If you are able to reduce your income below £100,000 it will save you a lot of tax.  You may be able to do this by making an additional pension contribution in this tax year.

(14) Rent-a-Room Relief

If you are struggling with insufficient income you might want to consider using rent-a-room relief. You can let a room in your home and receive rental income up to £7,500 a year tax free.

I wish you well in your tax year end planning.

Arthur Childs

Leave a Reply