How to pay less income tax
While most of us are comfortable with our moral obligation to pay tax, there's no need for us to pay more than we should. Everyone has a personal income tax allowance of £9,440, although this is higher for people aged over 65, rising as high as £10,660.
Anyone earning over that amount is potentially liable to pay income tax. With that in mind, here's the lowdown on how to lower your income tax exposure.
Check your tax code
You should always scan your payslip to make sure you are on the right tax code. You can find what the different letters and numbers on your code mean by checking the HM Revenue & Customs website (hmrc.gov.uk). If you think you're on the wrong code, contact your tax office.
Similarly, if your circumstances change, you should notify HMRC as your tax code could be affected.
Pay attention to detail
If you're self-employed, make sure you claim any tax-deductible expenses, such as any travel and accommodation costs, computers or machinery and a proportion of the costs of running a business from home, such as heating bills. If you do so, you can deduct their full cost when working out profits eligible for tax and get immediate tax relief.
There could also be opportunities to employ your children that would allow you to use up their tax-free allowances, says Mitch Young, director of tax services at Adler Shine.
Don't pay tax on savings
Make sure you use your full Isa allowance (£11,520 for stocks and shares Isas or £5,760 for cash Isas, rising to £11,880 and £5,940 respectively from 6 April 2014) as the interest or returns you get from these are free of income tax (and capital gains tax). On the savings and investment front, you should also look at junior Isas and other children's savings vehicles.
Pay into a pension
Making contributions to a personal or company pension scheme can be made from your gross pay, reducing your gross salary for income tax purposes. Contributing to a personal pension is tax advantageous, especially if you are earning £50,000 to £60,000 and receiving Child Benefit.
"Child benefit is now taxable if income is more than £50,000," explains Andrew Minsky, partner at Nyman Linden Chartered Accountants. "Paying into a pension can reduce the tax bill or help to avoid having to file a tax return altogether. If personal income is more than £100,000, you start to lose personal allowances, so pension contributions can be up to 60% funded by the taxman."
Get help from your spouse
If you have income-producing assets, such as deposit accounts, dividend-paying shares or buy-to-let property, it can make sense to move some or all of them into the name of the spouse who pays a lower rate of income tax or no income tax at all, says NFU Mutual's Sean McCann. "The added advantage of transferring income- generating assets to a spouse with a lower marginal tax rate is the tax on interest or dividends is reduced."
There is also a capital gains tax saving to be had, says Minsky: "If a couple has one higher-rate taxpayer and one basic-rate taxpayer, it is tax-efficient to place the assets under the ownership of the basic-rate taxpayer so CGT is paid at 18% rather than 28%."
Help out small businesses
If you invest up to £100,000 in a Seed Enterprise Investment Scheme (SEIS), you can get 50% immediate income tax relief against the cost of your investment, says Minsky. But the companies involved have to meet a range of criteria and shares must be held for a minimum of three years, making this complicated and probably best-suited to sophisticated high-net-worth investors.
Wealthier and higher risk investors could also explore venture capital trusts and other tax-efficient investments.
Act your age
Make sure you're receiving your age-related allowance. If you were born before 6 April 1948, you could be eligible for an increased personal income tax allowance - so don't miss out. If you were born between 6 April 1938 and 5 April 1948 your allowance rises to £10,500; if you were born before 6 April 1938 it rises to £10,660. However, this extra allowance decreases depending on your total income in any one tax year. Check hmrc.gov.uk for more details.
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.
Used by an employer or pension provider to calculate the amount of tax to deduct from pay or pension. A tax code is usually made up of several numbers followed by a letter. If you replace the letter in your tax code with ‘9’ you will get the total amount of income you can earn in a year before paying tax, for example 747L would mean a person could earn up to £7,479 before paying tax. The wrong tax code could mean a person ends up paying too much or too little tax.
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.
Enterprise Investment Scheme
A scheme set up to encourage investment into small, unquoted trading companies and give investors tax breaks to compensate for taking risk. Because the companies in the scheme are not listed on a stock exchange they often carry a high risk, so the tax relief is intended to offer some compensation. An EIS company cannot be a subsidiary, must trade wholly in the UK, can’t employ more than 50 people and certain activities (including forestry, farming and hotels) preclude companies from offering EIS relief.
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.
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.
The catch-all term applied to investors who buy properties with the sole intention of letting them to tenants rather than living in them themselves, with the proceeds from the let usually used for the repayment of the mortgage. Buy-to-let investors have to take out specialised mortgages that carry higher interest rates and require a much bigger deposit than a standard mortgage. Other expenditure can include legal fees, income tax (on the rental profits you make), capital gains tax (if you sell the property) and “void” periods when the property is unlet.