End of Year Tax Planning

As we read more and more about those being brought into the tax net because of the freezing of allowances it may be thought that there is no way of mitigating higher tax bills. For those whose sole income comes from full time employment this may well be the case but for many it is worth taking stock before the end of the tax year which is now less than two months away.

 The more obvious opportunities are :-

 Income Tax

The personal allowance has been frozen at £12,570 since 2020/21 and there is no indication that this will be increased in the Budget scheduled for 6 March. Nevertheless it is still valuable and for a 40% taxpayer it is worth a maximum of £5,028. The personal allowance is gradually reduced to nothing for an individual with adjusted net income in excess of £100,000. The reduction is £1 for every £2 of income over the limit. This means the allowance is Nil where adjusted income exceeds £125,140.

 The marginal rate of tax applying to income in the £100,000 to £125,140 range is 60% because of the combination of income tax on the excess and losing half of the personal allowance. For those whose adjusted income is in this range it is worth considering making a pension contribution in the knowledge that it will save tax at 60%. If maximum pension contributions have not been made in previous tax years then it may be possible for those with incomes well in excess of £100,000 to benefit from a large contribution because of the unused relief brought forward.

 There is a limit on tax relievable pension contributions and the limits changed in the current tax year. The threshold income limit is still £200,000 but the adjusted income limit is £260,000. Just as important however is the fact that whatever the income a tax relievable contribution  of £10,000 (previously £4,000) can now be made.

 The dividend allowance introduced at £5,000 is now only £1,000. Dividends in excess of this amount are taxed at 8.75%,33.75% and 39.35% depending on the tax band. For those who are married or in a civil partnership transferring assets to a spouse may enable two dividend allowances to be obtained. Care needs to be taken that there are no adverse Capital Gains Tax implications of transferring assets ( See below under CGT)

 A similar advantage can be taken of the personal savings allowance which is currently £1,000 for a basic rate taxpayer or £500 for a higher rate taxpayer. As a higher rate taxpayer does not receive any personal savings allowance transferring interest producing assets to a non-higher rate taxpaying spouse is advantageous.

 If circumstances permit placing funds in an ISA will avoid income tax on the interest or dividends that arise.

 Where parents gift money to children the interest produced on the deposit is only free of tax up to £100.The excess is liable to income tax on the parent(s).  With current interest rates around 5% over £2,000 on deposit in a child’s name creates a tax liability. Parents can avoid the tax by switching the funds to a Junior ISA, as any interest on an ISA is tax-free. If the gifts are not from a parent then this issue does not arise.

 It is worth mentioning here that capital gains made by a child as a result of acquiring assets with gifts from a parent are assessable on the child. The child will receive the annual exemption and any excess is taxable at the child’s marginal rate of income tax which is normally 20%. A child’s personal allowance cannot reduce the gain assessable.

 If there are significant bank or building society deposits and a change in circumstances occurs or may occur it might be worth ascertaining in which tax year it would be beneficial to receive the interest. If the taxpayer is likely to move to a higher rate band in the following tax year closing the account prior to 6 April will ensure that the interest crystallises in the current tax year. Conversely if the tax rate is likely to be lower in the next tax year it would be beneficial to ensure that interest is not credited until after 5 April following  the opening of the account. Accounts that credit interest monthly preclude any planning.

 For those with money purchase pension schemes there is often discretion as to when to take benefits. If taking benefits now means pushing income into a higher rate band could drawing some of the benefit be postponed until after 5 April when it will not result in being liable at a higher rate of tax. Accessing pension benefits is particularly relevant now  for those affected by the abolition of the Lifetime Allowance. This is a very complex area and a topic in its own right but there are advantages and disadvantages in drawing benefits before or after 6 April 2024. Professional advice is advisable here.

Capital Gains Tax (CGT)

 The annual exemption for individuals and disabled trusts is currently £6,000 but will reduce to £3,000 from 6 April. By staggering a sale either side of 6 April advantage can be taken of two year’s annual exemptions increasing the exemption to £9,000 ( market price issues aside).

 Once again for those married or in a civil partnership assets could be passed to a spouse prior to the sale to take advantage of two annual exemptions. Plus one spouse may only be a basic rate taxpayer limiting the tax charge to 10%/18% rather than 20%/28% if all sold by the other spouse. Care needs to be taken here though as one spouse may have losses brought forward which can only be utilised against gains made in his/her name. Any assets transferred to take advantage of the dividend allowance remain in that spouses name when they are sold and the gain /loss accrues to that spouse.

 If disposals are made just to take advantage of the annual exemption ( and hence used to increase the base cost) care should be taken when repurchasing the same asset. There is the 30 day “ bed and breakfast” rule to consider and pitfalls where the other spouse deals in the same shares in this window. Professional advice is recommended here.

 If circumstances permit placing funds in an ISA avoids CGT on any gains within the ISA but if a loss arises on the investments held within the ISA this loss cannot be offset against capital gains  on the sale of other assets.

Inheritance Tax (IHT)

 Apart from gifts in consideration of marriage it  is possible for annual gifts of £3,000 per person to be made. Often such gifts are made direct to grandchildren thus skipping a generation. The income grand children receive from depositing or investing these gifts is assessable on them not the parent. As children are entitled to a personal allowance there will be no income tax liability in most cases.

 A relief that is often more valuable than the above this is “ gifts out of normal expenditure “. The gifts  must be made out of  income, form a part of  a person’s  ‘normal expenditure’ and are paid out on a regular basis. Also the payments should not have any impact on the donor’s own standard of living.

 When the normal expenditure out of income exemption applies, gifts made are immediately outside the donor’s estate for IHT purposes immediately and there is no upper limit on the value to which the exemption can apply, provided the requisite conditions are met. In summary, these rules allow individuals to make regular financial gifts from their surplus income without triggering inheritance tax, as long as they meet the specified criteria.

 It is important to make sure that the gift is made from income. Gifts made from the sale of investments would not qualify but less obviously for example regular withdrawals from a single premium bond do not qualify as income. Many retired individuals regard these withdrawals as a regular source of income.

 Although this is not strictly a tax year end issue it is sensible to consider it then so as to meet the regular basis rule. It  might be that although there is insufficient income this year there was income available from the previous year which could be used. If income received more than two years ago is being carried forward then it is possible that this accumulated income could be considered to have become capital. 

Summary

 These are a few  very basic planning opportunities that can be considered and often implemented with little cost. However, as illustrated in the opportunity to gifts assets within a marriage to obtain two dividend allowances, the effect on other taxes needs to be considered before implementation. There should not be any concerns about HMRC reaction when simple planning measures are utilised whereas it is very rare for more sophisticated planning to survive HMRC scrutiny and ultimately succeed.