Time running out to take advantage of tax breaks
THIS IS AN OLD STORY, PUBLISHED BEFORE 6 APRIL 2008. TO READ THE LATEST TAX STORIES, CLICK HERE.
It’s out with the old and in with the new come 6 April, when the new tax year for 2008/09 begins. While you might be looking forward to certain aspects of the new tax regime - like increased ISA allowances - the chance to take advantage of today's basic rate of tax and capital gains tax taper relief will be gone for good unless you act quickly.
Many people have already taken action to ensure they have taken advantage of the current tax regime before the rules change. But it isn’t too late – there are some simple steps you can take now to reduce your tax bill. And as financial advisers are fond of reminding clients, it’s a question of “use it or lose it”.
Capital gains tax
From 6 April capital gains tax reforms will come into play, meaning the introduction of a flat rate of 18% and the end of indexation and taper relief. Taper relief, introduced from April 1998, means that the longer you own an asset, the lower your tax bill. For assets held before 1998, indexation allowance is used to calculate the reduction in tax.
Certain long-term investors should consider selling their investment now or risk being taxed at the new higher rate.
According to Alliance Trust, an investor who has made a £100,000 gain on an AIM share holding could sell these shares to their pension fund or use these shares for an in-specie pension contribution before 6 April and avoid paying an additional £8,000 in capital gains tax.
Some long-term investors who sell before 6 April will also be able to get taper relief on the capital gain above £9,200. Although you won’t be able to reinvest the money into the same investment, Matt Pitcher, wealth advisor at Towry Law, offers this tip: “Investors are able to repurchase the investment through an ISA. They can then crystallize the gain while still holding onto their investment.”
It’s not just investors that can benefit from changes to capital gains tax if they act now.
People with second homes that they bought before 1998, should also consider taking action before 6 April to reduce their capital gains tax bill. Spouses can transfer ownership of the property from one to the other in order benefit from indexation rules.
If they do this before 6 April, then the person gaining the property will do so at the original price plus indexation. This will decrease the gain, meaning when it comes to selling the capital gains tax bill will be reduced. To find out if you qualify for taper relief you should check the HM Revenue & Customs website.
According to Pitcher, changes to capital gains tax mean people with investment bonds should consider whether they’d be better off with a unit trust.
He said: “Unit trusts have looked better than investment bonds for some time, but from 6 April they will look even better.”
Whereas investment bonds are taxed internally at the same rate at income tax, in the next tax year unit trusts will only attract capital gains tax of 18%.
Pitcher added: “Most people will be within their capital gains tax allowance anyhow so they won’t pay anything. Plus there are tax deductions available on dividend income and interest distributions.”
From 6 April the basic rate of income tax will fall from 22% to 20%. This will make a difference to your pension contributions, as the tax relief will also decrease by 2%.
Alliance Trust says basic rate taxpayers should consider whether they are in a position to boost their contributions this tax year, to take advantage of the 22% tax relief currently on offer.
If you are a basic rate taxpayer and have cash to spare then you could consider putting a lump sum into your pension now rather than spreading in out over the next 12 months. If you do contribute a lump sum now then you will still receive 22% tax relief, as opposed to 20% after 6 April – equivalent to a 2p fall in the pound.
Remember, this is free money from the government.
If you are a higher rate taxpayer then putting in a lump sum now as opposed to making monthly payments for the next 12 months will offer no benefit in cash terms.
However, Pitcher points out that contributions before 6 April will get 22% tax relief from HMRC, with you claiming back the remaining 18% when you fill in your annual tax return next January. Next tax year the initial tax relief will decrease to 20% and the higher rate tax relief will increase to 20%.
Picher said: “The tax relief remains the same but it comes down on whether you want to se the money in your pension now or nearly 12 months down the line.”
If you haven’t yet used this year’s ISA allowance then you should consider doing so as soon as possible. ISA allowances cannot be carried forward from one tax year to the next so it really is a question of “use it or lose it”.
The cash ISA market continues to look attractive with banks and building societies improving their offerings all the time in order to tempt last-minute savers.
But if you want to utilise your equity ISA allowance before the new tax year bear in mind that not all investment companies will accept applications up to 6 April – some deadlines have already passed, meaning there is no time to waste if you intend to take advantage of free money from the taxman.
You should also start thinking about ISA transfers for the next tax year.
From 6 April the nil rate band for inheritance tax is being increased to £312,000. In addition, spouses can arrange to pass their unused nil rate band to their spouse when they die.
This is a big advantage for couples who want to protect their estate from the taxman and pass an inheritance onto their children. But the new rules means some couples have been getting rid of their will trusts, assuming the double nil band means they no longer need this vehicle to avoid an inheritance tax bill.
But this is not necessarily a good move. As Pitcher points out, there is nothing to stop the government – current or new – changing the law back in the future, to stop couples from benefiting from a double nil band. If this happens and you still have assets in a will trust then you won’t be caught out.
In addition, if the money from your estate is needed during your lifetime (perhaps to pay for long-term care) then keeping something aside in a will trust will ensure you can still protect the inheritance you intend to leave.
Finally, a will trust offers a benefit to the beneficiary of your estate as it allows them to decide – with the trustees - when they receive the asset. This could be useful if, for example, they are going through a divorce, and don’t want their inheritance to be divided.
The tax levied on the total value of your estate after you die. IHT has to be paid by the beneficiaries of your estate before they can receive any of the money from it. The money can’t be taken from the value of the estate _– it has to be paid before any money can be released. There is an IHT threshold – known as the “nil-rate band” – below which no tax is levied (£325,000 in 2011/12). Any amount above the nil-rate band is subject to tax at 40%. If your estate totals £600,000, there is no tax on the first £325,000; however your estate will pay 40% tax on the remaining £275,000, a total of £110,000. Prudent tax planning can reduce your IHT liability, so always consult a specialist solicitor.
A collective investment vehicle (known in the US as a “mutual” or “pooled” fund) and similar to an Oeic and investment trust in that it manages financial securities on behalf of small investors who, by investing, pool their resources giving combined benefits of diversification and economies of scale. Investors buy “units” in the fund that have a proportional exposure to all the assets in the fund, and are bought and sold from the fund manager. The price of units is determined by the value of the assets in the fund and will rise or fall in line with the value of those assets. Like Oeics (but unlike investment trusts) unit trusts and are “open ended” funds, meaning that the size of each fund can vary according to supply and demand of the units form investors. Unit trusts have two prices; the higher “offer” price you pay to invest and the “bid” price, which is the lower price you receive when you sell. The difference between the two prices is commonly known as the bid/offer spread.
There are limits to how much you can invest in any tax year. For 2011/12, the limit is £10,680. Of that, the maximum you can invest in cash is £5,340 and the balance of £5,340 can be invested in shares (individual company shares or investment funds). If you don’t take the cash ISA allowance, you can invest up to £10,680 into a stocks and shares ISA.
Everything you own: all your assets (property, cars, investments, savings, insurance payouts, artwork, furniture etc) minus any liabilities (debts, current bills, payments still owed on assets like cars and houses, credit card balances and other outstanding loans). When you’re alive this is called your wealth; when you’re dead, it becomes your estate.
If you own shares in a company, you’re entitled to a slice of the profits and these are paid as dividends on top of any capital growth in the shares’ value. The amount of the dividend is down to the board of directors (who can decide not to pay a dividend and reinvest any profits in the company) and they will be paid twice yearly (announced at the AGM and six months later as an interim). Dividends are always declared as a sum of money rather than a percentage of the share’s price. Although dividends automatically receive a 10% tax credit from HM Revenue & Customs (HMRC), which takes the company having already paid corporation tax on its profits into account. Dividends are classed as income and, as such, are liable for personal taxation and so shareholders have to declare them to HMRC.
Capital gains tax
If you buy an asset – shares, a second home, arts and antiques – and then sell it at a later date and make a profit, that profit could be subject to CGT. You don’t pay CGT on selling your main home (which is why MPs “flipped” theirs so regularly) or any securities sheltered in an ISA. Individuals get an annual CGT allowance (£10,600 in 2010/2011) but if you have substantial assets it’s worth paying an accountant to sort it for you.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.