By TIM STALKARTT 06/04/2010
A number of tax increases took effect from 6th April 2010, as the Government seeks to address the size of the fiscal deficit. These increases are targeted at high earners and we have set out below a summary of the changes, and some suggestions for ways to try and mitigate the increases:
Personal allowance
The personal allowance applies to the first £6,475 of earned income and does not attract any Income Tax. However, from 6th April the allowance will be reduced by £1 for every £2 on income that exceeds £100,000. This means the marginal rate of income tax for earnings between £100,000 and £112,950 is 60%.
Higher rate of income tax
The highest rate of income tax will increase from 40% to 50%, and dividend tax will increase from 32.5% to 42.5%, for income and dividends received when total income is in excess of £150,000.
Higher rate tax relief on pensions
We are in the second year of the ‘Anti-forestalling’ regime that restricts higher rate tax relief for higher earners. Higher rate tax relief is restricted to contributions of £20,000, or a maximum of £30,000 if the average level of infrequent contributions from 2006\07 to 2008\09 is greater than £20,000. This affects you if your income (from all sources including dividends, interest and rent) and employer pension contributions amount to more than £150,000. This could affect someone who, for example, earns £130,000 and whose employer contributes £20,000 into his or her pension.
For those with incomes below £130,000 before the inclusion of employer pension contributions will not be affected. This is highly complex and you should seek advice if you think you may be affected.
How to reduce your tax bill
- Pension contributions
Where total income (including employment, dividend, rental and investment income) is below £130,000, full tax relief at your marginal rate of income tax will be received on any pension contribution made. Tax relief can effectively be as high as 60% on income between £100,000 and £112,950. If total income exceeds £130,000, the tax relief available will depend on previous contributions prior to 22nd April 2009 and may be restricted to a maximum of £20,000.
- ISAs
From 6th April 2010, the ISA allowance increased to £10,200 for everyone aged over 18. Any interest earned on your savings in a Cash ISA are received free of income tax, so a basic rate tax payer can save 20% on income tax, whilst a higher rate tax payer can save 40%.
Unlike a Cash ISA, a Stocks & Shares ISA is not completely tax-free. Buying share-based investments (such as Unit Trusts or individual companies) through ISAs will still be liable to the dividend tax credit. This tax is deducted at source and no other tax is payable. For higher rate tax payers this will save you 22.5% tax. If you use your Stocks & Shares ISA to invest in interest-bearing investments, like corporate bonds or commercial property funds (investing directly into property), the interest is tax-free.
Any gains made on an investment made in a Stocks & Shares ISA is not liable to capital gains tax.
- Transferring assets to your spouse
If your husband or wife pays less tax than you, then you may be able to lower your joint tax bill by transferring collective investment funds, individual stocks, investment properties or cash deposits to them.
- Venture Capital Trusts (VCT)
For any investment into a VCT there is 30% income tax relief which can be offset against income earned in that year. To qualify, the investment must be held for five years. The most your can invest into VCTs in any one year is £200,000. Any income or capital gains paid by the VCT are not subject to tax.
- Enterprise Investment Schemes (EIS)
The maximum contribution on which income tax relief at 20% can be reclaimed is £500,000 (the tax relief can be reclaimed by HMRC if the EIS is surrendered within 3 years). There is no limit on the amount of capital gains tax that can be deferred by investing into an EIS. Any income or capital gains paid by the EIS are not subject to tax.
More aggressive tax schemes also become available from time to time, which are reviewed by our tax planning expert, Andrew Clark. Please ask to speak to a member of the financial planning team on 020 7189 9999 or your usual Bestinvest adviser if you wish to find out more.
Please note: In our view, VCTs and EISs are not an appropriate investment for everyone. We would recommend that they are only considered by experienced investors who are liable to higher rates of income tax, are willing and able to hold their investment over the longer-term and are comfortable with taking on a high level of risk.