Tax Planning and Budget Changes

27/03/2011

By Jeremy Passmore, Partner and Head of Private Client. Published in Citywire and Director of Finance.

With the end of the tax year fast approaching, it is a good time to be looking at estate and tax planning opportunities. We now know how the rules within which we have to work are going to be affected by the changes announced in the Budget. 

In many ways the Budget announcements were unexciting. Across the wide range of fiscal areas for which the Chancellor has responsibility, there were few major changes or dramatic announcements. Granted that the reduction of the Budget deficit remains the overriding objective, and the ongoing challenge of the economic climate, it was certainly no surprise that there were no big giveaways. Indeed, considering the Chancellor's need to raise revenue, and in the light of speculation before the Budget, it was perhaps surprising that there was no attempt to raise tax by tightening the rules in a number of areas, capital taxation in particular. 

So with the landscape largely unaltered, the tax and estate planning strategies we have do not need to be amended radically. 

Income tax

No big changes here.  Although the personal allowance is moving up reasonably well, for higher earners this does not benefit, as the £1,000 increase is offset by a reduction in the higher rate tax threshold. So the problems for higher earners remain.  We all know about the 50% top rate, but the marginal rate where an individual's income exceeds £100,000 is actually 60%, granted the phasing out of personal allowances. There is some hope that following a review by HMRC into the amount of tax raised by the 50% rate, it may not continue indefinitely, with the Chancellor confirming that it is only considered to be a temporary measure. In the meantime, the effective use of pensions and other tax shelters remains extremely important. 

Pensions

We can look back on the period following so called pension simplification as a golden age because of the generous availability of tax relief. From 6 April 2011, full tax relief at the marginal rate is available only for pension contributions up to £50,000, although there is limited carry forward of unused relief for three years. No changes to the proposals already in the pipeline were announced in the Budget.  Sentiment amongst tax payers and their advisers on the effectiveness of pensions as a form of saving has been changeable, but even in the more restrictive regime the net cost of providing a pension pot, with 25% of the fund available tax free, will still represent an attractive return. 

Tax Shelters

Leaving aside more exotic products that are available at the fringes, there are certain mainstream tax shelters which are tried and tested, such as enterprise investment schemes and venture capital trusts.  The uncertainty here is not the tax relief but the risk involved in investing in the particular qualifying companies involved, the relief of course being the incentive and reward for taking that risk. 

EIS relief was at 20% on investments of up to £500,000 per year and next year increases to 30%.  It is proposed that in 2012/13 the amount an individual can invest through EIS will rise to £1m. VCTs are unchanged and offer a relief of 30% on investments up to £200,000 per year, and the dividends arising and any gains are tax free. These increases in the relief for individuals, combined with some proposed increased thresholds for qualifying companies, is intended to give a boost to entrepreneurs setting up smaller companies and encourage their funding. 

Less exciting, and less risky in terms of the underlying investments, is the old favourite the ISA.  No change here in the Budget and we already knew that the limit for the coming year will be £10,680. Perhaps not that large a sum in itself, but if used cumulatively ISAs can be a very useful vehicle to shelter from tax a worthwhile amount. A husband and wife can contribute, assuming the 2011/12 rate, £213,600 over a ten year period.  Why would you want that amount of money to be exposed to income and capital gains tax, when it can be sheltered? 

Capital Gains Tax

Again no great changes in this area.  We are now familiar with the 18% standard rate and 28% higher rate.  Where gains are building up, it is important to try to use annual exemptions on a regular basis; £10,100 for this year and now £10,600 for next year.  Especially where the 28% rate applies, since June last year, if there is any scope to realise losses to set against that liability then that should definitely be considered before the year end.

The Budget did effect a significant change, to the tax payer's advantage, in respect of Entrepreneurs Relief. There is no change to the criteria for the relief, and when satisfied qualifying gains are taxed at 10% rather than the 18% or 28% rate. What alters from 6 April is that the lifetime limit has increased from £5m to £10m. On the maximum figure the tax saving against the 28% rate is £1.8m, so this change means that there is an additional £900,000 saving to be had.  With such potential savings, it is vital for any tax payer with a prospective disposal to consider the conditions for the relief and to structure their affairs to ensure that they do come within the scope of the relief. 

 Non-domiciled taxation

A consultation document is proposed for June. The changes envisaged include the removal of a charge when income or capital gains are remitted for the purpose of making a commercial investment in a UK business.  This is part of the theme of encouraging entrepreneurship and investment in UK business, along with changes to Entrepreneur's Relief and the expansion of EIS relief referred to above. 

However, there is a proposed increase from £30,000 to £50,000 each year for those resident for twelve or more years, who wish to continue to use the remittance basis. The £30,000 figure would continue to apply for those resident for at least seven years but fewer than twelve years. 

There was reassurance for those who are non-UK domiciled with a statement that, beyond changes being announced, there would be no other substantive changes during the life of this Parliament. 

Charities and Inheritance Tax

The overall scheme of the tax is unaltered, although in one area we will have the novelty of an unfamiliar rate, namely 36%. This will be available where a tax payer leaves by Will 10% or more of the net estate to charity.  It remains to be seen what the final form of this measure is, as the Government is consulting with a view to introducing it from 6 April 2012.  It seems that non-charity beneficiaries under a Will are not themselves actually going to benefit if 10% is allocated to charities, although the tax bill itself will be less and the charities will of course benefit, and this may encourage greater charitable giving. 

Inheritance Tax

The nil rate band remains at £325,000, and will do so until 2014/15. 

The Inheritance Tax regime is really very restrictive at present. There are few magic solutions, and more ambitious schemes come with no guarantee against scrutiny by HMRC, retrospectively in some areas. The climate therefore places greater importance on making regular use of the exemptions and reliefs that are available; those that have successfully sheltered significant values of their estates tend to have planned early and acted regularly. 

No article looking to the tax year end would be complete without an exhortation to use your £3,000 a year annual exemption, and last year's if unused. However this is a really small amount and what you really need to be doing is giving away more substantial assets if you can afford to do so. 

If you give them now, and live seven years there is no limit to what you can give outright.  If you need a trust to control what you are giving, you are effectively limited to £325,000, so you can do that now and after seven years your nil rate band exemption will be available again. 

It is easy to give away assets that are no use to you, such as death benefits from your life and pension arrangements, probably to a trust for your spouse. For many people these are the largest assets in their estate apart from the main residence, and they can so easily be dealt with. There are few life policies and pension arrangements where there should not be some sort of trust in place to shelter from Inheritance Tax. 

Gifts of surplus income on a regular basis are exempt at the time of the gift, whatever the amount.

None of this is tax year end sensitive, nor has it been affected by the Budget, but these are all the type of steps which should be considered, and implemented in a timely fashion.