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uk Tax Guides

How to Save Tax

2013/2014

Nick Braun PhD

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ISBN 978-1-907302-72-5

16th Edition, March 2013

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 Pay Less Tax!
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All products available online at

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Popular Taxcafe titles include:

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Bookkeeping, Cashflow, Tax & VAT
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Disclaimer

1. This guide is intended as general guidance only and does

NOT constitute accountancy, tax, investment or other
professional advice.

2. The author and Taxcafe UK Limited make no representations

or warranties with respect to the accuracy or completeness of
this publication and cannot accept any responsibility or
liability for any loss or risk, personal or otherwise, which may
arise, directly or indirectly, from reliance on information
contained in this publication.

3. Please note that tax legislation, the law and practices of

Government and regulatory authorities (e.g. HM Revenue &
Customs) are constantly changing. We therefore recommend
that for accountancy, tax, investment or other professional
advice, you consult a suitably qualified accountant, tax adviser,
financial adviser, or other professional adviser.

4. Please also note that your personal circumstances may vary

from the general examples provided in this guide and your
professional adviser will be able to provide specific advice
based on your personal circumstances.

5. This guide covers UK taxation only and any references to ‘tax’

or ‘taxation’, unless the contrary is expressly stated, refer to UK
taxation only. Please note that references to the ‘UK’ do not
include the Channel Islands or the Isle of Man. Foreign tax
implications are beyond the scope of this guide.

6. All persons described in the examples in this guide are entirely

fictional. Any similarities to actual persons, living or dead, or
to fictional characters created by any other author, are entirely
coincidental.
About the Author & Taxcafe

Dr Nick Braun founded Taxcafe in 1999, along with his partner

Aileen Smith. As the driving force behind the company, their aim
is to provide affordable plain-English tax information for private
individuals, business owners and professional advisers.

Over the past 13 years Taxcafe has become one of the best-known
tax publishers in the UK and has won several prestigious business
awards.

Nick has been a specialist tax writer since 1989, first in South
Africa, where he edited the monthly Tax Breaks publication, and
since 1999 in the UK, where he has authored several tax books
including Property Capital Gains Tax, Small Business Tax Saving
Tactics, Pension Magic and Salary versus Dividends.

Nick also has a PhD in economics from the University of Glasgow,

where he was awarded the prestigious William Glen Scholarship
and later became a Research Fellow.
Contents

Introduction 1

Part 1 Income Tax & National Insurance 2

Chapter 1 Income Tax 3

Chapter 2 Salary Earners 9

Chapter 3 The Self-Employed 12

Chapter 4 Landlords 17

Chapter 5 Company Owners 20

Chapter 6 Older and Younger Taxpayers 24

Chapter 7 The Child Benefit Tax Charge 25

Chapter 8 Splitting Income with Your Family 31

Part 2 The Other Big Taxes 40

Chapter 9 Capital Gains Tax 41

Chapter 10 Inheritance Tax 47

Chapter 11 Corporation Tax 49

Chapter 12 Stamp Duty Land Tax 54

Part 3 Useful Tax Shelters & Tax Exemptions 57

Chapter 13 Individual Savings Accounts (ISAs) 58

Chapter 14 Pensions 62
Contents (cont...)

Chapter 15 Venture Capital Trusts 68

Chapter 16 Enterprise Investment Schemes 72

Chapter 17 The Seed Enterprise Investment Scheme (SEIS) 75

Chapter 18 These Amounts Are Always Tax Free 77

Part 4 Recent Tax Changes 87

Chapter 19 Individual Tax Changes 88

Chapter 20 Business Tax Changes 96

Introduction

Welcome to Taxcafe’s How to Save Tax 2013/2014, our

comprehensive tax planning guide for individuals and business
owners.

This guide covers ALL the major tax changes announced in the
March 2013 Budget, plus other important changes that come into
force this year.

In Part 1 you will find out how much income tax and national
insurance you will pay during the current tax year, plus lots of tax
saving tips for salary earners, the self employed, landlords and
company directors.

You will also find out how to avoid the new child benefit charge
and how to cut your income tax bill by thousands of pounds by
splitting your income with your spouse or partner and other
members of your family.

Part 2 covers recent changes to the other big taxes: capital gains
tax, inheritance tax, corporation tax and stamp duty land tax.
Each chapter contains useful tax-saving tips.

Part 3 shows you how to enjoy bigger tax savings from tax shelters
like ISAs, pensions, venture capital trusts, enterprise investment
schemes and the seed enterprise investment scheme (SEIS).

You will also find a chapter containing a detailed list of amounts

that are always TAX FREE!

Finally, in Part 4 we take a detailed look at all the other recent tax
changes, including those announced in the March 2013 Budget,
plus other important changes coming into force this year or in the
near future.

The Current Tax Year

Some of the tax planning strategies discussed in this guide require

action before the end of the tax year. The current tax year runs
from 6th April 2013 to 5th April 2014. I refer to it throughout as
2013/14.

1
 Part 1

Income Tax &

National Insurance

2
Chapter 1

Income Tax

For the 2013/14 tax year, starting on 6th April 2013 and ending on
5th April 2014, most individuals pay income tax as follows:

• 0% on the first £9,440 Personal allowance

• 20% on the next £32,010 Basic-rate band
• 40% above £41,450 Higher-rate threshold

Generally speaking, if you earn more than £41,450 you are a

higher-rate taxpayer, if you earn less you are a basic-rate taxpayer.

Example – Basic-Rate Taxpayer

John earns a salary of £30,000. His income tax for 2013/14 can be
calculated as follows:

• 0% on the first £9,440 = £0

• 20% on the next £20,560 = £4,112

Total income tax bill: £4,112

Example – Higher-Rate Taxpayer

Jane is a sole trader and has profits of £60,000. Her income tax for
2013/14 can be calculated as follows:

• 0% on the first £9,440 = £0

• 20% on the next £32,010 = £6,402
• 40% on the final £18,550 = £7,420

Total income tax bill: £13,822

3
Income between £100,000 and £118,880

Once your income exceeds £100,000 your income tax personal

allowance is gradually taken away. It is reduced by £1 for every £2
you earn above £100,000. For example, if your income is £110,000
your personal allowance will be reduced by £5,000. Once your
income reaches £118,880 you will have no personal allowance at
all.

This is a real tax sting for those earning over £100,000. The
personal allowance saves you up to £3,776 in tax if you are a
higher-rate taxpayer (£9,440 x 40%).

Paying Tax at 60%

The effect of having your personal allowance taken away is that

anyone earning between £100,000 and £118,880 faces a hefty
marginal income tax rate of 60%.

For example, someone who earns £100,000 and receives an extra

£10,000 will pay 40% tax on the extra income – £4,000. They’ll
also have their personal allowance reduced by £5,000, which
means they’ll have to pay an extra £2,000 in tax (£5,000 x 40%).
Total tax on extra income: £6,000 which is 60%!

Income over £150,000

Once your income rises above £150,000 you start paying income
tax at 45% on most types of income (previously 50%). This is
known as the additional rate of tax.

What Income is Taxed at these Rates?

The above income tax rates apply to most types of income

including:

• Salaries
• Self-employment profits (sole traders and partnerships)
• Rental profits
• Pensions

4
Some types of income (salaries and self-employment profits) are
also subject to national insurance. So in the next few chapters we
will examine the total tax payable by salary earners and the self
employed, as well as company directors and landlords.

Some types of income (dividends and interest) are subject to

different income tax rates.

Dividends

Many individuals receive dividends from stock market companies

or from their own private companies.

The income tax rates on dividends are lower than those that apply
to most other types of income. This is because dividends are taxed
twice: the company pays corporation tax and the shareholder pays
income tax.

The income tax rates applying to cash dividends (the actual

payment from the company to the shareholder) in 2013/14 are:

• Basic-rate taxpayers 0%
• Higher-rate taxpayers 25%
• Additional rate taxpayers 30.6%*

* 36.1% before 6th April 2013

Dividends are always treated as the top slice of income and

therefore subject to the highest possible tax rate.

Gross Dividends vs Cash Dividends

As we know you become a higher-rate taxpayer when your income

exceeds £41,450 and an additional rate taxpayer if your income
exceeds £150,000.

However, those thresholds are for gross dividends, not the actual
cash dividends you receive.

Whereas shareholders are mostly interested in their cash dividends

(the money they actually receive) most tax calculations work with
gross dividends.

5
Gross dividends are found by dividing cash dividends by 0.9:

Gross dividends = Cash dividends/0.9

For example, if you receive a cash dividend of £90, the gross

dividend is £100 (£90/0.9). The £10 difference is what’s known as
the dividend tax credit.

Gross dividends are taxed at the following rates:

• Basic-rate taxpayers 10%

• Higher-rate taxpayers 32.5%
• Additional rate taxpayers 37.5%*

* 42.5% before 6th April 2013

However, to calculate the final income tax bill you subtract the
10% dividend tax credit. The dividend tax credit is supposed to
compensate you for the fact that dividends are paid out of profits
that have already been subjected to corporation tax.

The effective income tax rates on gross dividends are therefore:

• Basic-rate taxpayers 0%
• Higher-rate taxpayers 22.5%
• Additional rate taxpayers 27.5%

It’s all unnecessarily complicated – a bit like climbing over a

mountain instead of walking around the side – but UK tax law
carries a lot of baggage like this from years gone by.

However, you do have to understand how dividends are taxed if

you want to minimise the income tax payable on them!

Example 1
John earns a salary of £30,000 and receives a cash dividend of £100
from some BT shares he owns. He has no other taxable income. John is
clearly a basic-rate taxpayer and therefore does not have to pay any
income tax on the dividend.

6
Example 2
Bill earns a salary of £41,000 and receives a cash dividend of £900
from some Vodafone shares he owns (the gross dividend is £1,000).
Bill’s total taxable income is £42,000.

The higher-rate threshold is £41,450, so £450 of Bill’s gross dividend is

tax free. The remaining £550 of gross dividend income is taxed at an
effective rate of 22.5%, producing an income tax charge of £124.

Foreign Dividends

In the past, the dividend tax credit described above did not apply
to any dividends received from foreign companies (i.e. companies
not resident in the UK).

Today, however, the tax credit also applies to all foreign dividends
except where the recipient individual owns 10% or more of the
share capital in the paying company and that company is resident
in a ‘tax haven’.

Interest

For most taxpayers interest income is taxed at the same income

tax rates that apply to employment income, self-employment
income and rental profits, ie 20%, 40% and 45%.

There is also a 10% starting rate that applies where the taxpayer’s
other income (excluding dividends) is low enough to enable their
savings income to fall into the starting rate band.

The starting rate limit for 2013/14 is £2,790. Coupled with the
£9,440 income tax personal allowance, this means that most
individuals will generally only be able to benefit from the starting
rate band if their other income for the year (excluding dividends)
is less than £12,230 in total.

7
Future Income Tax Changes

In the March 2013 Budget, it was announced that income tax will
be levied as follows in the 2014/15 tax year:

• 0% on the first £10,000 Personal allowance

• 20% on the next £31,865 Basic-rate band
• 40% above £41,865 Higher-rate threshold

The personal allowance will continue to be withdrawn when your

income exceeds £100,000 and will be completely taken away if
your income exceeds £120,000.

No changes have been announced to the 45% additional rate that

applies to income over £150,000.

8
Chapter 2

Salary Earners

Income Tax 2013/14

From Chapter 1 we know that in 2013/14 income tax is payable as

follows on employment income:

• 0% on the first £9,440 Personal allowance

• 20% on the next £32,010 Basic-rate band
• 40% above £41,450 Higher-rate threshold

When your taxable income exceeds £100,000 your personal

allowance is gradually withdrawn, producing a marginal income
tax rate of 60%. Once your taxable income exceeds £150,000, the
45% additional rate of tax is payable.

National Insurance 2013/14

National insurance is payable as follows on employment income:

• 0% on the first £7,755 Earnings threshold

• 12% on the next £33,695
• 2% above £41,450 Upper earnings limit

Combined Tax Rates 2013/14

The combined marginal rates of income tax and national

insurance applying to salaries in 2013/14 are as follows:

Income up to £7,755 0%
Income from £7,755 to £9,440 12%
Income from £9,440 to £41,450 32%
Income from £41,450 to £100,000 42%
Income from £100,000 to £118,880 62%
Income from £118,880 to £150,000 42%
Income over £150,000 47%

9
Employer’s National Insurance 2013/14

Most employees don’t lose much sleep over the national insurance
paid by their employers. However, this is a tax on YOUR income.
If it didn’t exist your employer could arguably pay you a higher
salary.

Companies pay class 1A national insurance at 13.8% on every

single pound of salary over £7,696.

Case Study – Total Tax Payable on Salary

Jane earns a salary of £60,000. Her income tax for 2013/14 can be
calculated as follows:

• 0% on the first £9,440 = £0

• 20% on the next £32,010 = £6,402
• 40% on the final £18,550 = £7,420

Total income tax bill: £13,822

Her national insurance for 2013/14 can be calculated as follows:

• 0% on the first £7,755 = £0

• 12% on the next £33,695 = £4,043
• 2% on the final £18,550 = £371

Jane’s national insurance bill: £4,414.

Her employer’s national insurance bill is:

• 0% on the first £7,696 = £0

• 13.8% on the next £52,304 = £7,218

The total tax paid on Jane’s income is:

Income tax £13,822

Employee’s national insurance £4,414
Employer’s national insurance £7,218
Total taxes £25,454

10
 Table 1
Total Tax on Employment Income
2013/14

Income Income Employee's Total paid Employer's Total Tax

Tax NI by NI
Employee
£10,000 £112 £269 £381 £318 £699
£20,000 £2,112 £1,469 £3,581 £1,698 £5,279
£30,000 £4,112 £2,669 £6,781 £3,078 £9,859
£40,000 £6,112 £3,869 £9,981 £4,458 £14,439
£50,000 £9,822 £4,214 £14,036 £5,838 £19,874
£60,000 £13,822 £4,414 £18,236 £7,218 £25,454
£70,000 £17,822 £4,614 £22,436 £8,598 £31,034
£80,000 £21,822 £4,814 £26,636 £9,978 £36,614
£90,000 £25,822 £5,014 £30,836 £11,358 £42,194
£100,000 £29,822 £5,214 £35,036 £12,738 £47,774
£150,000 £53,598 £6,214 £59,812 £19,638 £79,450
£200,000 £76,098 £7,214 £83,312 £26,538 £109,850

When you include employer’s national insurance, it’s startling

how much tax is paid on Jane’s income. Her £60,000 salary is not
low by any standards but you wouldn’t describe her as a high
income earner either. Nevertheless an amount equivalent to 42%
of her salary is paid in direct taxes on her income.

Table 1 shows the total tax payable on different levels of

employment income in 2013/14.

11
Chapter 3

The Self-Employed

Many people regard all business owners as ‘self-employed’.

However, when HMRC talks about ‘self-employed’ individuals they
are referring specifically to businesses that are not companies, ie
sole traders and partnerships. Self-employed business owners pay
income tax and national insurance on their taxable profits.

Income Tax 2013/14

As we know, the following income tax rates apply to self-

employment profits:

• 0% on the first £9,440 Personal allowance

• 20% on the next £32,010 Basic-rate band
• 40% above £41,450 Higher-rate threshold

When income exceeds £100,000 the personal allowance is

gradually withdrawn, producing a marginal tax rate of 60%. Once
income exceeds £150,000, the 45% additional rate applies.

Self-employed taxpayers pay the same income tax as salary earners

but the national insurance position is different.

National Insurance 2013/14

Self-employed business owners usually pay class 4 national

insurance as follows:

• 0% on the first £7,755

• 9% on the next £33,695
• 2% above £41,450

Most self-employed individuals with annual earnings over the

small earnings exception limit of £5,725 must also pay class 2
national insurance of £2.70 per week – £140.40 for the year.

12
 Table 2
Total Tax on Self-Employment Profits
2013/14

Income Income Class 2 NI Class 4 NI Total Tax

Tax
£10,000 £112 £140 £202 £454
£20,000 £2,112 £140 £1,102 £3,354
£30,000 £4,112 £140 £2,002 £6,254
£40,000 £6,112 £140 £2,902 £9,154
£50,000 £9,822 £140 £3,204 £13,166
£60,000 £13,822 £140 £3,404 £17,366
£70,000 £17,822 £140 £3,604 £21,566
£80,000 £21,822 £140 £3,804 £25,766
£90,000 £25,822 £140 £4,004 £29,966
£100,000 £29,822 £140 £4,204 £34,166
£150,000 £53,598 £140 £5,204 £58,942
£200,000 £76,098 £140 £6,204 £82,442

Combined Tax Rates 2013/14

Putting all of the above income tax and national insurance rates
together, we can see that most self-employed business owners face
the following combined marginal tax rates in 2013/14:

First £5,725 £0
£5,725 to £7,755 £140.40
£7,755 to £9,440 9%
£9,440 to £41,450 29%
£41,450 to £100,000 42%
£100,000 to £118,880 62%
£118,880 to £150,000 42%
Over £150,000 47%

Table 2 shows the total tax payable on different levels of self-

employment income in 2013/14.

13
Tax Planning with Marginal Tax Rates

If you know roughly how much taxable profit your business is

likely to make, you can do some constructive tax planning:

Example 1
Alana is a sole trader and expects to make taxable profits of £45,000
during the current tax year. If she incurs an additional £1,000 of tax
deductible expenditure, this will reduce her tax bill for the year by £420
(£1,000 x 42%).

Example 2
Shelly is a sole trader and expects to make taxable profits of £35,000
during the current tax year. If she incurs an additional £1,000 of tax
deductible expenditure, this will reduce her tax bill for the year by £290
(£1,000 x 29%).

Example 1 continued
Alana expects her taxable profits to fall from £45,000 to around
£30,000 during the next 2014/15 tax year. This means her marginal
tax rate will fall from 42% to 29%.

If she incurs £1,000 of tax deductible expenditure in 2013/14 she will

save £420 in tax; if she spends the money in 2014/15 she will save
£290 in tax. Alana should try to spend the money during the current
tax year, rather than next year (assuming she can afford to).

Example 2 continued
Shelly expects her taxable profits to rise from £35,000 to £50,000
during the next 2014/15 tax year. This means her marginal tax rate will
rise from 29% to 42%.

If she incurs £1,000 of tax deductible expenditure in 2013/14 she will

save £290 in tax; if she spends the money in 2014/15 she will save
£420 in tax. Shelly may want to consider postponing the expenditure
until next year (assuming this is commercially feasible).

14
Reducing Taxable Profits

Of course income tax and national insurance are only payable on

the profits of the business. The most important tax planning
strategy for self-employed business owners is to claim as much tax
deductible expenditure as possible to push down taxable profits.

There are lots of tax deductions that can be claimed including:

• Home office expenses

• Salaries paid to family members, including children
• Travel and subsistence costs (including foreign travel)
• Capital expenditure (eg new cars, vans and equipment)
• Motoring costs
• Interest and finance costs

Year-End Planning

The 2013/14 tax year ends on 5th April 2014. However, the critical
deadline for most year-end planning is the business’s own
accounting date. Most businesses are generally free to choose their
own accounting date.

As the business’s accounting year end approaches, some steps may

be taken to reduce the amount of taxable profit for the year,
including the following:

• Purchasing assets eligible for capital allowances

• Payment of bonuses to employees
• Undertaking necessary repairs and maintenance work

For most businesses, expenditure is generally allowable when

incurred, not when it is paid for.

Example
Ruth and Wayne run a small restaurant. They have a 31st March
accounting date for tax purposes. In March 2014 they have some repairs
done to the restaurant’s windows. They do not receive an invoice for the
work until May 2014 and do not pay it until July 2014. Despite not
having to pay for this cost until July 2014, Ruth and Wayne are entitled
to claim it in their accounts for the year ended 31st March 2014.

15
New Cash Basis for Small Businesses

From 1 April 2013 unincorporated businesses beneath the VAT

registration threshold (currently £79,000) will be able to account
for income and expenses using a new cash accounting regime.

Income will be taxable when it is received and expenditure will be

deductible when it is paid.

The regime is voluntary and available to sole traders and most

partnerships. It is not available to companies, limited liability
partnerships or landlords.

Under cash accounting, you will not be taxed on sales you have
made but not been paid for yet. You are also able to claim a full
deduction for all expenses paid, even if those expenses are
prepayments. However, you will not be able to claim a deduction
for expenses you have incurred but not paid for yet.

Those using the cash basis will not have to adjust for debtors,
creditors and stock and will generally not have to distinguish
between revenue and capital expenditure. Capital allowances will
remain available for expenditure on cars only.

Flat Rate Deductions

Legislation is also being introduced, with effect for the 2013/14 tax
year, to allow all unincorporated businesses to claim fixed rate tax
deductions for certain expenses, including:

• Motoring expenses for cars, motorcycles and goods vehicles

• Business use of home
• Private use of business premises

Further Information

For more information on tax saving strategies for self-employed

business owners see the Taxcafe guide Small Business Tax Saving
Tactics.

16
Chapter 4

Landlords

The one advantage of earning rental income is that it is generally

exempt from national insurance.

Landlords receiving only rental income will pay income tax at the
same rates as those payable on employment and self-employment
income:

Income Tax 2013/14

In 2013/14 income tax is payable as follows on rental income:

• 0% on the first £9,440 Personal allowance

• 20% on the next £32,010 Basic-rate band
• 40% above £41,450 Higher-rate threshold

When your taxable income exceeds £100,000 your personal

allowance is gradually withdrawn, producing a marginal income
tax rate of 60%. Once your taxable income exceeds £150,000, the
45% additional rate of tax is payable.

Of course, many landlords (except full-time professional landlords)

receive most of their income from other sources, for example a job
or another business. In these circumstances it may be more
accurate to calculate the tax on your rental income by determining
your marginal tax rate:

Marginal Income Tax Rates 2013/14

Income from £0 to £9,440 0%

Income from £9,440 to £41,450 20%
Income from £41,450 to £100,000 40%
Income from £100,000 to £118,880 60%
Income from £118,880 to £150,000 40%
Income over £150,000 45%

17
Example 1
Kathy has a job and earns a salary of £50,000. She recently acquired a
property and expects to make taxable rental profits of £10,000 during
the current tax year. With income of £50,000 her marginal tax rate is
40%, so she will pay £4,000 income tax on her rental profits.

Example 2
Patricia has a job and earns a salary of £35,000. She recently acquired
a property and expects to make taxable rental profits of £10,000 during
the current tax year. She still has £6,450 of her basic-rate band
remaining so she will pay 20% income tax on £6,450 of her rental
income. She will pay 40% tax on the remaining £3,550. The total tax
payable on her rental profits is £2,710, ie 27.1%.

Rental Income vs Other Investment Income

Although there is no national insurance on rental income, income

from property may be a lot less tax efficient than income from
investments like shares with high dividend yields or bonds.
Dividends and interest income are completely tax free if your
money is sheltered in an ISA or pension.

This tax planning point is important for amateur or part-time

landlords who are weighing up the pros and cons of investing in
property versus other investments.

For example, a higher-rate taxpayer who receives £5,000 of

dividends from shares held in an ISA will pay no income tax. If the
same individual receives £5,000 of rental income, income tax of
£2,000 will typically be payable.

If your existing taxable income is £100,000 and you earn an

additional £5,000 of rental income you may end up paying
additional income tax of £3,000, ie 60% of your profits will go to
the taxman. You will be left with just £2,000 versus the £5,000 you
could have received in tax-free dividends.

18
Reducing Taxable Profits

Income tax is only payable on rental profits. Owners of rental

properties can claim a significant amount of tax deductible
expenditure, thereby pushing down their rental profits.

Tax deductions that can be claimed typically include:

• Mortgage interest
• Repairs
• Letting agent fees
• Insurance
• A 10% wear and tear allowance
• Home office expenses
• Travel and subsistence costs
• Spending on equipment used in the business
• Motoring costs

Further Information

There are also lots of other income tax saving strategies that
property investors can employ, including transferring properties to
spouses who pay tax at a lower rate (see Chapter 8).

For more information on how to pay less tax on your rental

income see the Taxcafe guide How to Save Property Tax.

19
Chapter 5

Company Owners

Salaries & Bonuses

Company owners receiving employment income only (salaries and

bonuses) will pay income tax and national insurance at the same
rates that apply to regular salary earners (see Chapter 2):

Income up to £7,755 0%
Income from £7,755 to £9,440 12%
Income from £9,440 to £41,450 32%
Income from £41,450 to £100,000 42%
Income from £100,000 to £118,880 62%
Income from £118,880 to £150,000 42%
Income over £150,000 47%

Your company will also pay class 1A national insurance at 13.8%

on every single pound of salary over £7,696. This is, however, a tax
deductible expense for the company.

Dividends

Company owners can also pay themselves dividends (provided the

company has sufficient distributable profits and subject to certain
other restrictions). Dividends are subject to income tax but not
national insurance.

As explained in Chapter 1, the effective income tax rates on most

cash dividends are actually 0%, 25% or 30.6%.

The following are the effective tax rates for individuals receiving
dividend income only in 2013/14:

First £37,305 Nil

£37,305 to £90,000 25%
£90,000 to £106,992 37.5%
£106,992 to £135,000 25%
Over £135,000 30.6%

20
The reason the tax bands look different to those for other types of
income is simply because of the way dividends are grossed up (see
Chapter 1). The above tax bands for dividends are all one tenth
smaller than the tax bands for other types of income.

For example, if you receive cash dividends of £37,305, you will

have gross dividends of £41,450 (£37,305/0.9). If you receive any
more dividend income you will become a higher rate taxpayer and
start paying tax at 25%.

Salaries and Dividends

Many company owners pay themselves a mixture of salary and

dividends. Dividends are attractive to company owners because
there is no national insurance payable on them. When calculating
the income tax bill we have to remember that dividends are always
treated as the top slice of income

Example
Stephen receives a salary of £30,000 from his company plus a cash
dividend of £18,000 (a gross dividend of £20,000). He has no other
taxable income.

Looking at his salary first, we know from Table 1 in Chapter 2 that he

will pay income tax of £4,112 plus employee’s national insurance of
£2,669. His salary after tax will be £23,219.

His company will also pay employer’s national insurance of £3,078,

although this will be a tax deductible expense for the company. If the
company pays 20% corporation tax, the tax relief will come to £616
(£3,078 x 20%).

Turning to his dividend income, Stephen has £11,450 of his basic-rate

band remaining (£41,450 higher-rate threshold less £30,000 salary).
This means £11,450 of his gross dividend income will be tax free
(£10,305 of his cash dividends). The remaining £8,550 of gross
dividend income is taxed at an effective rate of 22.5%, resulting in a tax
bill of £1,924.

In summary, Stephen will be left with an after-tax salary of £23,219

and an after-tax dividend of £16,076 (£18,000 - £1,924). His total
income before tax was £48,000. His total after-tax income is £39,295.

21
Tax Planning for Company Owners

Company owners can often decide whether any distribution of the

company’s money is classified as salary or dividend. This allows
them to enjoy the most tax efficient mix of income. (For more
information on choosing the optimal mix of salary and dividends,
see the Taxcafe guide Salary versus Dividends.)

Another advantage of being a company owner is that you may

have complete control over how much income you withdraw in
total. This gives you significant control over your personal income
tax bill.

Unlike sole traders and other self-employed business owners, who

pay tax each year on ALL the profits of the business, company
owners only pay income tax on the money they actually withdraw
from the company.

This allows company owners to reduce their income tax bills by

adopting the following strategies:

• Smooth income
• Roller-coaster income

Smooth Income

With smooth income, the company owner withdraws roughly the

same amount of money each year, even though the company’s
profits may fluctuate considerably.

Smooth income allows the director/shareholder to stay below any

of the following key income tax thresholds that could result in a
higher income tax bill:

• £41,450 Higher-rate tax

• £50,000 Child benefit tax charge (see Chapter 7)
• £100,000 Personal allowance withdrawal
• £150,000 Additional rate tax

22
Roller-Coaster Income

With roller-coaster income, the directors/shareholder takes a

bigger or smaller salary or dividend than would normally be
required to fund their lifestyle.

Roller-coaster income could save you tax when:

• Tax rates are going up or down

• You want to preserve your basic-rate band and pay capital
gains tax at 18% instead of 28%
• You have income from other sources that fluctuates from
year to year

Other Tax Saving Strategies

Company owners can also employ a host of other tax efficient

profit extraction strategies including:

• Gifting shares to family members so they can receive tax-

free or less heavily taxed dividends
• Paying salaries to family members
• Paying rent (if the company uses property that you own
personally)
• Company pension contributions
• Loans to directors

All of these tax saving strategies are covered in detail in the

Taxcafe guide Salary versus Dividends.

23
Chapter 6

Older and Younger Taxpayers

National Insurance

Payments to those under 16 years of age are exempt from both

employee’s and employer’s national insurance.

When you reach state pension age you stop paying national
insurance. Employer contributions continue on payments to
employees over state pension age.

Self-employed individuals must generally carry on paying Class 4

contributions in the year they reach state pension age. They are
exempt from the next tax year onwards.

The state pension age will rise to 66 in 2020 for both men and
women. By 2028 it will be 67.

Personal Allowance

From 6th April 2013, people turning 65 no longer receive the

special age-related allowances.

Although the age-related allowances are being phased out, the

sharp increases in the standard income tax personal allowance
(£9,440 in 2013/14 and £10,000 in 2014/15) means that most
retirees will continue to receive a significant proportion of their
income tax free.

At present those born between 6th April 1938 and 5th April 1948
receive a £10,500 age-related allowance and those born before 5th
April 1938 receive £10,660.

The additional amounts are gradually withdrawn if taxable income

exceeds £26,100. They are reduced by £1 for every £2 above the
income limit (although you will never receive less than the
standard income tax personal allowance of £9,440).

24
Chapter 7

The Child Benefit

Tax Charge

Child benefit is an extremely valuable tax-free gift from the

Government to parents. Those who qualify currently receive the
following annual payments in 2013/14:

• £1,055.60 for the first child

• £696.80 for each subsequent child

Depending on the number of children, a family can expect to

receive the following total child benefit payment:

Children Total Child Benefit

1 £1,056
2 £1,752
3 £2,449
4 £3,146

plus £696.80 for each additional child

Child benefit generally continues to be paid until your children

are 16 years old. The payments will continue until age 20 if the
child is enrolled in full-time ‘non-advanced’ education, eg GCSEs,
A levels and Scottish Highers. Degrees do not qualify.

The Child Benefit Charge

Child benefit is withdrawn from ‘high earners’ through the

levying of a new tax called the High Income Child Benefit Charge.
It generally kicks in where one parent has income over £50,000
and the maximum charge is payable if income is above £60,000.

By income we mean “adjusted net income”, which generally

includes all your taxable income less certain deductions such as
pension contributions.

25
When it comes to calculating the child benefit charge, we are only
interested in the spouse/partner with the biggest income. The couple’s
total income does not matter.

Calculating the Child Benefit Charge

For 2013/14 and future tax years, for every £100 of income over
£50,000 a tax charge equivalent to 1% of the child benefit is levied
on the highest earner in the household.

As a result, if the highest earner has income of £60,000 or more,

the tax charge will be 100% of the child benefit claimed.

If your income is somewhere in the £50,000-£60,000 bracket, the

simplest way to calculate the tax charge is to divide the excess by
100:

Example 1
Paula has income of £53,000 and receives child benefit of £1,752. She
is the highest earner in her household. The excess over £50,000 is
£3,000. Divided by 100 we get 30. Paula’s tax charge is 30% of her
child benefit, ie £525 (rounded down to the nearest whole pound).

Example 2
John has income of £53,550 and his wife receives child benefit of
£1,752. He is the highest earner in the household. The excess over
£50,000 is £3,550. Divided by 100 we get 35 (rounded down to the
nearest whole percentage). John’s tax charge is 35% of the child benefit,
ie £613 (rounded down to the nearest whole pound).

Table 3 contains some sample child tax charges for the 2013/14
tax year and shows how much child benefit you will have left after
paying the tax.

26
 TABLE 3
Child Benefit Charge 2013/14

1 Child 2 Children 3 Children

Income CB Tax Net CB Tax Net CB Tax Net
50,000 1,056 0 1,056 1,752 0 1,752 2,449 0 2,449
51,000 1,056 105 951 1,752 175 1,577 2,449 244 2,205
52,000 1,056 211 845 1,752 350 1,402 2,449 489 1,960
53,000 1,056 316 740 1,752 525 1,227 2,449 734 1,715
54,000 1,056 422 634 1,752 700 1,052 2,449 979 1,470
55,000 1,056 528 528 1,752 876 876 2,449 1,224 1,225
56,000 1,056 633 423 1,752 1,051 701 2,449 1,469 980
57,000 1,056 739 317 1,752 1,226 526 2,449 1,714 735
58,000 1,056 844 212 1,752 1,401 351 2,449 1,959 490
59,000 1,056 950 106 1,752 1,576 176 2,449 2,204 245
60,000+ 1,056 1,056 0 1,752 1,752 0 2,449 2,449 0

Notes
1. Income is adjusted net income of highest earner
2. CB is the maximum annual child benefit
3. Tax is the child benefit charge
4. Net is the amount of child benefit left over after paying the charge

Eye Watering Tax Rates

If you are the highest earner in your household, you may face a
triple tax whammy on income in the £50,000-£60,000 bracket:

• Income tax
• National insurance
• Child benefit charge

Hence you could face a sky-high tax rate on some of your income:

Example
Robert has income of £50,000 and is the father of two young children.
He is the highest earner in the household. He receives a £10,000 salary
increase at the start of the 2013/14 tax year. How much tax will he pay
on this extra income? As a higher-rate taxpayer he will pay 40% income
tax and 2% national insurance: £4,200. Because his income is £60,000
he also faces a 100% child benefit charge: £1,752 for two children. His
total additional tax is £5,952, ie 60% of his pay rise goes in tax.

27
 TABLE 4
Marginal Tax Rates: £50,000-£60,000

2013/14 Tax Year

Children Earnings* Rent/Interest Dividends
1 53% 51% 37%
2 60% 58% 44%
3 66% 64% 52%
4 73% 71% 60%
+ 7% 7% 8%

* Earnings include salary income and self-employment profits

+ Extra tax payable for each additional child

Table 4 lists the tax rates payable on different types of income that
fall into the £50,000-£60,000 bracket.

Clearly, the more children you have the higher your tax rate. For
example, if your income for 2013/14 lies somewhere between
£50,000 and £60,000, and you have four children, you face paying
73% tax on all earnings in the £50,000-£60,000 bracket.

How to Avoid the Child Benefit Charge

There are lots of things you can do to escape the child benefit
charge and hold onto this valuable tax-free benefit:

Company Owners

Company owners arguably have the most flexibility because they

can generally smooth their dividend income and stay below the
£50,000 threshold each year.

Alternatively, they may be able to pay themselves big dividends in

some tax years and smaller dividends in other tax years, thereby
avoiding the charge every second year.

Company owners can also split their income with their spouses by
gifting shares in the business.

28
Self Employed & Landlords

Self employed business owners and landlords may be able to bring

forward or postpone tax deductible expenditure, thereby keeping
their taxable incomes below the £50,000 threshold.

Properties can also be transferred to spouses who have lower

taxable income (see Chapter 8).

Pension Contributions

The easiest way for almost everyone to avoid the child benefit
charge is by making pension contributions (for a more detailed
discussion of the pension contribution rules see Chapter 14).

Example
Peter has income of £60,000 in 2013/14. His wife earns £30,000 and
receives child benefit for two children: £1,752. Peter invests £8,000 in
his pension. The taxman will add an extra £2,000 to his pension pot
(known as basic-rate relief), resulting in a gross pension contribution of
£10,000. When Peter submits his tax return he will receive an extra
£2,000 of higher-rate tax relief (£10,000 gross contribution x 20%).

The £10,000 gross pension contribution will result in Peter’s adjusted

net income falling from £60,000 to £50,000. This means he will
completely avoid the child benefit charge of £1,752.

In summary, Peter will enjoy total tax relief of £5,752 (58%) on his
£10,000 pension contribution:

• £2,000 basic-rate relief

• £2,000 higher-rate relief
• £1,752 child benefit charge

Peter has to decide whether he wants £10,000 saved in a pension

versus £4,248 of after-tax income to spend.

Many would agree that making pension contributions is

worthwhile when the tax relief is so high.

29
Pension Tax Relief Rates

Peter enjoys 58% tax relief because he has two children. If you
have fewer children or more children you will enjoy a different
amount of tax relief on your pension contributions:

No. Children Tax Relief 2013/14

1 51%
2 58%
3 64%
4 71%

Note: Assumes adjusted net income in £50,000-£60,000 bracket both before and after
making the pension contribution.

The more children you have the more tax relief you will enjoy.
However, even those with just one child will enjoy over 50% tax
relief. Most higher-rate taxpayers only enjoy 40% tax relief on
their pension contributions.

Further Information

For a detailed examination of these and lots of other techniques

you can use to avoid the child benefit charge, see the Taxcafe
guide How to Protect Your Child Benefit.

30
Chapter 8

Splitting Income with

Your Family

A well-known tax saving technique is to make sure assets that

produce taxable income (eg rental properties) are owned by the
spouse (or other family member) with the lowest tax rate.

Business owners should also consider paying salaries to family

members (including children) who have a lower marginal tax rate.

Company owners should consider gifting shares in the business to

their spouse and paying them dividends if these dividends will be
tax free or less heavily taxed than their own.

Tax savings are typically achieved where one spouse is a higher-

rate taxpayer, paying 40% tax on most types of income, and the
other spouse has no income at all or is a basic-rate taxpayer.

Example
In 2013/14 Shakeel has self-employment income of £50,000 from a
small shop. He acquires a property that generates rental income of
£10,000 and pays £4,000 income tax on this income (at 40%).

Let’s say Shakeel’s wife Nazreen earns a salary of £20,000. If Shakeel

transfers the rental property to Nazreen she will pay £2,000 income tax
on the rental profits (at 20%).

All in all, the tax on the rental income will fall from £4,000 to £2,000.

However, it’s not just these couples who can save tax by splitting
income. The number of tax bands has increased significantly in
recent years. Where couples find themselves in different tax bands,
there is potential to save tax by splitting income.

31
The 2013/14 income tax bands are as follows:

• £0-£9,440 Tax free

• £9,400-£41,450 Basic-rate tax
• Over £41,450 Higher rate tax
• £50,000-£60,000 Child benefit tax charge
• £100,000-£118,880 Personal allowance withdrawal
• Over £150,000 Additional rate of tax

Even if your spouse is a higher-rate taxpayer it may still be possible

to save tax by shifting income to him/her. For example, your
spouse may pay 40% tax but you may pay 64% if you have three
children and face the child benefit charge (see Chapter 7). In this
case it will be possible to save up to 14% tax by shifting income to
your spouse.

Example revisited
Shakeel and Nazreen receive child benefit for three children. With self-
employment income of £50,000 and rental income of £10,000,
Shakeel’s total income is £60,000 and he faces the maximum child
benefit charge: £2,449 for three children. We will also assume that
Nazreen’s salary is £45,000, ie she is also a higher-rate taxpayer.

If Shakeel transfers the rental property to Nazreen this will not save any
income tax (Nazreen will pay 40% tax just like him) but will reduce the
child benefit charge.

Shakeel’s adjusted net income will fall from £60,000 to £50,000 and
Nazreen’s income will rise from £45,000 to £55,000. Nazreen will now
be the highest earner and will pay a 50% child benefit charge: £1,224.

The couple are saving £1,224 per year but they could have done
better by evening up their income:

Example continued
Shakeel decides instead to transfer 75% of the property to Nazreen. This
means her income will now be £52,500 (£45,000 salary plus £7,500
rental income). Shakeel’s income will also be £52,500 (£50,000 from
the shop and £2,500 rental income). A 25% child benefit charge will
now be payable: £612. The transfer saves the couple £1,837, with
similar savings possible in future tax years.

32
Future Tax Years

The tax savings enjoyed by Shakeel and Nazreen in 2013/14 may

not, however, be enjoyed in future tax years.

For example, if Shakeel’s or Nazreen’s income grows significantly

this will push them further into the £50,000-£60,000 bracket,
thereby increasing the child benefit charge.

In other words, when deciding how to split income with your

spouse you should possibly look ahead to future tax years, rather
than focusing on tax savings in a single tax year.

Splitting Rental Income

When it comes to splitting rental income with your spouse, in

England and Wales there are two types of joint ownership:

• Joint tenancy
• Tenancy in common

With joint tenancy, each joint owner is treated as having an equal

share of the property and the income is split 50:50.

With tenancy in common, the shares in the property do not have

to be equal. A tenancy in common therefore provides far more
scope for tax planning.

In Scotland the most common form of ownership is Pro Indivisio

ownership, which is much the same as tenancy in common.

Income Tax Elections

Where a property is held jointly by a married couple, the default

income tax treatment is a 50:50 split, even if the property is
owned in unequal shares.

If you want to be taxed according to your actual beneficial

ownership of the property you have to make an election using
Form 17 from HMRC. On this form you state the proportions in
which the property is owned and this determines how the rental
profits are divided for income tax purposes.

33
Unmarried Couples

A property (or a share in a property) can be transferred from one

spouse to another without any capital gains tax consequences.

With unmarried couples, a transfer from one partner to another or

into joint names can result in a capital gains tax charge. The
property is taxed as if it has been sold for its market value.

For this reason, it is preferable to get the ownership split right

when the property is acquired.

Having said this, joint owners who are not married can agree to
split the rental income in a different proportion to their legal
ownership of the property.

It is important to have the income split properly documented in a

signed and dated profit-sharing agreement before the start of the
tax year, and it is probably advisable to have the income paid into
separate bank accounts.

Other Taxes & Costs

When transferring a property or share in a property to your spouse

to save income tax, there may be various legal costs and other tax
issues that need to be factored into the equation. Other taxes
include:

• Stamp duty land tax. Even if no money is paid by your

spouse, stamp duty may be payable if there is a mortgage
attached to the property.

• Capital gains tax. An unequal split may be optimal for

saving income tax but not when it comes to selling the
property. It may be beneficial to change the ownership
split prior to selling the property.

34
Example
Marjorie owns a very profitable business and pays 45% income tax. Her
husband Colin looks after the kids and has no income. Marjorie owns a
property which is showing a net capital gain of £50,000 and produces a
rental profit of £10,000 per year. If she keeps the property in her name
she will pay £4,500 income tax on the rental profits.

She transfers the entire property to Colin. Because they are married there
is no capital gains tax on the transfer. Colin pays £112 income tax on
the rental profits, saving the couple income tax of £4,388 this year, with
similar savings in future tax years.

A few years later Marjorie winds up her business because it is not

producing much income and the couple decide to sell the rental property
at the start of the tax year to raise some cash. Colin now works from
home and is a higher-rate taxpayer earning £45,000 per year. If Colin
sells the property he will pay 28% capital gains tax on the entire
£50,000 capital gain, except the first £10,900 which is tax free,
resulting in a capital gains tax bill of £10,948.

Colin shouldn’t transfer the entire property back to Marjorie because

that will mean his own CGT exemption cannot be used for the sale. He
also shouldn’t transfer just half the property to Marjorie. Because she
has no income, her basic-rate band is available and up to £32,010 of
capital gains can be taxed at just 18% in her hands.

Colin should keep roughly 22% of the property in his name

(£10,900/£50,000) and transfer approximately 78% to Marjorie. Colin
will pay no tax on his £10,900 capital gain and Marjorie will pay
£5,076 in tax on her gain of £39,100 – an overall tax saving of £5,872.

(The example uses 2013/14 tax rates to keep it simple.)

Salaries for Family Members

If your spouse, partner or other family member works in your

business, you may wish to pay them enough income each tax year
to utilise their personal allowances (generally £9,440 for 2013/14).

Payments in excess of the national insurance primary threshold

(£7,755 for 2013/14) made to employees aged 16 or over, but
below state retirement age, are subject to class 1 national insurance
at 12%.

35
All payments to employees aged 16 or over in excess of the
secondary threshold (£7,696 for 2013/14) are subject to employer’s
national insurance at 13.8%.

In some cases, it may make sense to limit any salary payments to

family members in 2013/14 to a maximum of £7,696 or £7,755,
rather than the full amount of the personal allowance. However, if
you are a higher rate taxpayer sole trader, a salary equal to the full
personal allowance could prove optimal overall. This is because
salaries paid to family members are a tax deductible expense for
the business, where justified by work carried out.

If you pay a family member £9,440, the total national insurance

cost of the additional salary over the two earnings thresholds will
be £442.87. This includes employer’s national insurance of
£240.67.

However, the total tax relief received by you on the extra £1,744
salary over the secondary threshold will be £833.56 (£1,744 +
£240.67 = £1,984.67 x 42%), producing an overall net saving of
£390.69 (£833.56 - £442.87).

The savings will be even greater if you have a marginal income tax
rates of 45%, 60%, or if you face the child benefit tax charge.

Salaries – Further Issues

Any salary payments must be:

• Justified by the work carried out

• Actually paid to the employee, and
• Reported to HM Revenue & Customs as required

It is usually necessary to pay salaries on a regular basis over the

course of the tax year, and not in irregular lump sums, in order to
avoid any unwanted national insurance liabilities.

36
Higher Salaries for Family Members

It may be worth paying your spouse, partner or other family

member more salary to use up their basic rate tax band. However,
these additional payments will generally be subject to 20% income
tax and 25.8% national insurance (12% paid by the employee,
13.8% paid by you the employer).

Despite these tax charges a small overall tax saving can sometimes
be enjoyed if the employer is a higher rate taxpayer.

More significant savings will be enjoyed if the employer faces a

marginal income tax and national insurance rate of 47% or 62% or
is subject to the child benefit tax charge.

Company Owners

Where a company is owned and run by a husband and wife or

unmarried couple it is possible for both to receive a combination
of salary and dividends.

If most of the income comes in the shape of dividends, and

income is kept below the higher-rate threshold (£41,450 in
2013/14), it may be possible to avoid income tax altogether.

If your spouse/partner isn’t involved in the business (for example

if they have a job somewhere else or look after the children) it may
be possible to gift shares and pay them dividends.

Spouse Has No Income

For example, if you are a higher-rate taxpayer and your spouse is a

‘house-spouse’ with no job and no other taxable income, they can
receive gross dividends of up to £41,450 in 2013/14 (£37,305 cash
dividends).

The maximum potential tax saving is £9,326 if the other spouse is

a higher-rate taxpayer (£37,305 x 25% or £41,450 x 22.5%).

37
Spouse is Basic-Rate Taxpayer

Even if your spouse works and has taxable income, it is possible to

achieve tax savings by gifting shares in the business to them. The
tax savings will vary from case to case.

Example
Stephen is a company owner with taxable income of £60,000 in
2013/14, made up of £50,000 gross dividends and £10,000 of salary
and other income. His wife, Lara, receives taxable income of £30,000
from another source.

Lara is a basic-rate taxpayer because her income is less than £41,450.

This means she could receive a tax-free cash dividend of up to £10,305
in 2013/14 (a gross dividend of £11,450).

For example, if Stephen were to gift 20% of the shares to Lara and the
company normally pays gross dividends of £50,000, she will receive a
tax-free gross dividend of £10,000 (a cash dividend of £9,000).

Stephen would have paid tax on this dividend income. The tax saving is
£2,250 (£9,000 x 25% or £10,000 x 22.5%).

Spouse is Higher-Rate Taxpayer

If you and your spouse/partner are higher-rate taxpayers (income

over £41,450 in 2013/14) it is still possible to save tax by gifting
shares in the company to your spouse if this helps you avoid the
child benefit charge.

Example revisited
The facts are exactly the same as before except Lara’s income is
£45,000 instead of £30,000 and she receives £1,752 child benefit for
two children.

If Stephen gifts 15% of the business to Lara she will receive gross
dividends of £7,500. Her total taxable income will be £52,500.
Stephen’s income will also be £52,500.

Equalising their incomes in this fashion will allow the couple to hold on
to three-quarters of their child benefit – a saving of £1,314 per year.

38
Splitting Income – Other Issues

There are many other issues involved when it comes to splitting

company income with your spouse or partner. These are covered
in more detail in the Taxcafe guide Salary versus Dividends.

Other issues include:

• Temporary tax savings. Tax savings that are achieved

during one tax year may disappear in future tax years, for
example if your spouse becomes a higher-rate taxpayer or if
income rises to £60,000.

• Capital gains tax. A transfer of shares between married

couples is exempt from capital gains tax. Transfers between
unmarried couples are treated as a sale at market value
(although the couple may be able to claim holdover relief).

• Proper ownership. To successfully split your dividend

income with your spouse/partner it is essential that proper
ownership of part of the company is handed over. It is
generally safer to transfer ordinary shares rather than
shares that have fewer rights. Dividends are generally
payable in proportion to shareholdings. So if you normally
take a dividend of £50,000 and want to transfer £20,000 of
this income to your spouse, you will generally have to
transfer 40% of the business to them.

• Income-shifting legislation. HMRC has tried to attack

income shifting between couples and may do so again in
the future. The safest set-up, arguably, is where both
individuals are married and involved in the business.

Income Splitting: Further Information

Taxcafe has several tax guides that explore income splitting

strategies in detail. These include:

• How to Save Property Tax

• Small Business Tax Saving Tactics
• Salary versus Dividends
• How to Protect Your Child Benefit

39
 Part 2

The Other Big

Taxes

40
Chapter 9

Capital Gains Tax

Capital Gains Tax Rates

Individuals pay capital gains tax at three rates:

• 18% Basic rate taxpayers

• 28% Higher rate taxpayers
• 10% Entrepreneurs Relief rate

Entrepreneurs Relief is generally only available when you sell a

business.

Basic Rate Band

If you are a basic-rate taxpayer you pay 18% CGT on some or all of
your taxable capital gains. Unfortunately, the basic rate band has
been continually cut in recent years to pay for increases in the
income tax personal allowance:

2010/11 £37,400
2011/12 £35,000
2012/13 £34,370
2013/14 £32,010
2014/15 £31,865

In 2013/14 you can have up to £32,010 of capital gains taxed at

18% instead of 28%.

If you want to free up your basic-rate band and pay 18% CGT, it
may be necessary to reduce your taxable income when you realise
substantial capital gains.

41
The Annual Capital Gains Tax Exemption

The annual exemption is £10,900 for 2013/14. In other words,

capital gains of up to £10,900 can be realised tax-free during the
current tax year.

The annual exemption will then increase as follows:

2014/15 £11,000
2015/16 £11,100

The CGT exemption has not been increased in line with inflation
for several years and, coupled with reductions in the basic rate
band, means that George Osborne has increased the CGT haul
without increasing tax rates.

Where possible, you should consider using this exemption before

the end of the tax year on 5th April 2014. After that date, this
year’s exemption is lost completely. It’s a case of ‘use it or lose it’.

Example
Caitlin sells a buy-to-let property in December 2013 and realises a
capital gain of £40,000. Her taxable income for 2013/14 is £34,450
which means she still has £7,000 of her basic rate band remaining
(£41,450 - £34,450).

Caitlin deducts her annual exemption of £10,900 from the £40,000

gain, leaving a taxable gain of £29,100. The first £7,000 is taxed at
18% and the remainder at 28%, giving her a capital gains tax bill of:

£7,000 x 18% £1,260

£22,100 x 28% £6,188
Total £7,448

Caitlin has to pay capital gains tax of £7,448 on 31st January 2015
(there are no instalment payments for capital gains tax).

Further Annual Exemption Benefits

Couples enjoy one capital gains tax exemption each so they can
have £21,800 of tax-free capital gains in 2013/14.

42
Minor children also have their own annual exemption.

The estate of a deceased person has its own annual exemption in

the tax year of the death and the following two tax years.

Trusts also have their own annual exemption equal to half of the
annual exemption available to individuals (i.e. £5,450 for
2013/14). However, this amount must be sub-divided amongst all
of the trusts set up by the same settlor.

Bed and Breakfasting

The old practice known as bed and breakfasting is no longer

possible in its simplest form (selling assets, usually quoted shares,
and buying them back the next day in order to utilise the annual
exemption).

There are, however, still a number of ways in which the annual

exemption can be used:

• Wait 31 days before buying the shares back. This

strategy will not appeal to those who wish to remain fully
invested.

• Bed and Spouse. Despite its name, this strategy can be

used by all couples (married or not). One partner sells the
shares and the other one makes an equivalent purchase.
(For married couples and civil partners the repurchase must
be made on the open market – a direct sale from one
spouse or partner to the other will not have the desired
effect.)

• Bed and ISA – sell the shares to use your annual

exemption and buy them back through an ISA. It is,
however, unlikely that you will be able to utilise the whole
annual exemption in this way.

43
Spreading Asset Sales

Property investors who want to sell more than one property

should consider spreading their sales over more than one tax year,
where possible, to use more than one year’s worth of CGT
exemption.

This will save a couple up to £6,104 in capital gains tax during the
current tax year.

Capital Losses

Capital losses are automatically set off against capital gains arising
in the same tax year. Any surplus is carried forward for set off
against future gains (but only to the extent that the future gains
exceed the annual exemption). Generally speaking, capital losses
may not be carried back to earlier tax years.

This has a couple of important practical implications:

• Losses must be realised by 5th April 2014 in order to be set

off against 2013/14 capital gains.

• If the losses realised during any tax year reduce the net
capital gains for that tax year below the level of the annual
exemption, some of this exemption is effectively lost.

The timing of the disposal of assets standing at a loss should

therefore be considered carefully.

Entrepreneurs Relief

Entrepreneurs Relief allows each individual to have up to £10

million of capital gains taxed at just 10% instead of 18% or 28%.
This can produce tax savings of up to £1,800,000.

Because Entrepreneurs Relief applies on a per person basis, the more

people who own the asset (your spouse or partner, children, etc),
the more tax you could save.

44
For example, a couple can enjoy up to £20 million of capital gains
taxed at 10%, producing a combined tax saving of up to £3.6
million.

Who Qualifies?

Entrepreneurs Relief is supposed to benefit those selling trading

businesses.

Trading businesses are, for want of a better word, “regular”

businesses – the likes of shopkeepers, dressmakers, consulting
engineers, graphic designers …and thousands more like them.

A business loses its trading status when it owns significant

investments, including rental properties, and will not receive any
Entrepreneurs Relief.

If you are a buy-to-let investor, the taxman treats you as a business

owner, but not as a trading business owner. Two types of property
that can qualify for Entrepreneurs Relief are:

• The trading premises of your own business

• Furnished holiday lets

Company owners are entitled to Entrepreneurs Relief when they

sell shares in their company. The main qualifying criteria are the
following:

• The company must be your ‘personal company’, i.e. you

must own at least 5% of the ordinary share capital and
voting rights

• You must be an officer or employee of the company

• The company must be a ‘trading’ company

All three of these requirements must be met for at least one year
before the business is sold. It does not matter if the requirements
are met in earlier years.

45
Emigration

Several years ago it was possible to leave the UK for a short period
of time and avoid capital gains tax on any assets sold while non-
resident.

Unfortunately, this is no longer possible. To avoid a clawback of

capital gains tax when you return you will need to remain non-UK
resident for at least five complete UK tax years.

With the introduction of the new statutory residence test from 6th
April 2013 it should become easier to determine with certainty
your residence status for tax purposes. It will still be possible to
maintain non-resident status despite some limited return visits to
the UK.

Reporting Capital Gains

You will need to report capital gains arising during the year on
your tax return if:

• You have any capital gains tax liability, or

• Your total sale proceeds for capital disposals made during
the year exceed four times the annual exemption (i.e.
£43,600 for disposals during 2013/14).

If you sell a property and the gain is totally covered by the

principal private residence exemption (e.g. the sale of your own
main home) it does not have to be reported on your tax return.

It is also important to report capital disposals that give rise to an

overall capital loss for the tax year, so that you can carry the loss
forward to future years.

If you are not already in the self-assessment system and need to

report a capital gain or loss, it is important to advise HM Revenue
and Customs as soon as possible after the end of the relevant tax
year.

46
Chapter 10

Inheritance Tax

The inheritance tax nil rate band has been frozen at its current
level of £325,000 since 6th April 2009.

The nil rate band is the amount of your estate that is exempt from
inheritance tax.

It will remain frozen at this level up to and including the 2017/18

tax year. By then the nil rate band will have been eroded
significantly by inflation. More and more families will continue to
be sucked into the inheritance tax net.

Generally speaking, effective inheritance tax planning should be

carried out on a long-term basis. However, it is worth
remembering the following points, which should be considered on
an annual basis.

Annual Exemption

The first £3,000 of gifts made by any individual in each tax year is
totally exempt from inheritance tax.

Furthermore, if last year’s annual exemption has not been fully

utilised, it can be carried forward into the current tax year.
However, you cannot carry it forward for more than one year.
Hence, if you have not made any gifts during the current or
previous tax year, up to £6,000 of gifts made during the current
tax year will be exempt.

As with capital gains tax, each person has their own annual
exemption so married couples can make gifts of £3,000 each.

47
Small Gifts Exemption

Gifts of up to £250 per tax year made to any one individual are
also exempt from inheritance tax and do not count towards the
annual exemption.

You can make as many such gifts as you like to different people.
The annual exemption may not, however, be used for further gifts
to the same recipient in the same tax year.

Example
David has three sons. He makes the most of his annual and small gifts
exemptions by making three gifts every year – a gift of £3,000 to one son
and gifts of £250 to each of his other two sons. To make it fair, he
changes which son gets the £3,000 gift each year.

Habitual Gifts Out Of Income

There is a general exemption from inheritance tax for habitual

gifts out of income. In order for such gifts to be ‘habitual’, they
should generally be made regularly for a number of years. Hence,
it is important to remember to make any such gifts again this year.

Further Information

For more information about inheritance tax planning see the

Taxcafe guide How to Save Inheritance Tax.

48
Chapter 11

Corporation Tax

Companies pay corporation tax on both their income and capital

gains.

There are currently two ‘official’ corporation tax rates. For the
financial year commencing 1st April 2013 the rates are as follows:

• Small profits rate 20%

• Main rate 23%

Companies with taxable profits of £300,000 or less pay 20%

corporation tax and companies with taxable profits exceeding £1.5
million pay 23% tax. If profits are between £300,000 and £1.5
million a ‘marginal relief’ calculation is made. The practical effect
of this is that there are effectively three corporation tax rates:

Profits up to £300,000 20%

Profits from £300,000 to £1.5 million 23.75%
Profits over £1.5 million 23%

For example, a company with profits of £400,000 for the year

ending 31st March 2014 will pay 20% on the first £300,000 of
profits and 23.75% on the remaining £100,000.

Future Corporation Tax Changes

No changes to the small profits rate have been announced.

However, the main rate will fall to 21% in April 2014 and 20% in
April 2015. The current and future corporation tax rates can be
summarised as follows:

Profits Year Commencing 1st April

2013 2014 2015
Up to £300,000 20% 20% 20%
£300,000 to £1.5 million 23.75% 21.25% 20%
Over £1.5 million 23% 21% 20%

49
Associated Companies

The corporation tax profit bands must be divided up if there are

any ‘associated companies’.

The basic rule is that a company is associated with another

company if they are both under the control of the same person.

For example, if you own all of the shares in two companies these
companies will probably be associated. Each company will start
paying corporation tax at 23.75% when its profits exceed £150,000
(i.e. £300,000/2). If there are three associated companies, this
higher rate will kick in at £100,000 (£300,000/3)… and so on.

Companies controlled by close relatives or business partners are

also counted as associated companies if there is a substantial
commercial relationship between the companies.

The associated company rules may become less important from

April 2015 onwards, when the single 20% corporation tax rate is
introduced.

Trading Companies vs Investment Companies

In tax jargon a ‘trading’ company is one involved in, for want of a

better word, ‘regular’ business activities, e.g. a company that sells
goods online, a catering company or a firm of garden landscapers.

Common types of non-trading company include those that hold

substantial investments in property or financial securities or earn
substantial royalty income.

Corporation Tax

If your company is involved ‘wholly or mainly’ in non-trading

activities it could be classed as a close investment holding
company (CIC). CICs pay corporation tax at the main rate,
currently 23%, on ALL of their profits, including their existing
trading profits. They cannot benefit from the 20% small profits
rate (although they may be able to benefit from April 2015
onwards when the single 20% corporation tax rate is introduced).

50
Companies that invest in rental property are specifically excluded
from the CIC provisions (unless there is private use of the
properties by you or your family or if they are let to connected
persons).

Capital Gains Tax

If a company has too many non-trading activities (including most

property investment and property letting) it may lose its trading
status for capital gains tax purposes.

This will result in it losing two important CGT reliefs:

• Entrepreneurs Relief
• Holdover Relief

Entrepreneurs Relief allows you to pay capital gains tax at just 10%
when you sell your company, as opposed to 28% (see Chapter 9).

Holdover Relief allows you to give shares in the business to

children, common-law spouses and other individuals free from
CGT. (You don’t need holdover relief to transfer shares to your
spouse because such transfers are always exempt.)

Although owning rental properties will not affect the company’s

corporation tax rate, it can affect the company’s CGT rate.

The company will, however, only lose its trading status for CGT
purposes if it has ‘substantial’ investment activities. Unfortunately
to the taxman ‘substantial’ means as little as 20% of various
measures such as:

• Assets
• Turnover
• Expenses
• Profits
• Directors’ and employees’ time

HMRC may attempt to apply the 20% rule to any of the above
measures.

51
Inheritance Tax

Shares in trading companies generally qualify for business property

relief which means they can be passed on free from inheritance
tax. However, if the company holds investments (including rental
property) this could result in the loss of business property relief.

The qualification criteria are, however, more generous than for

CGT purposes and a company generally only loses its trading
status for inheritance tax purposes if it is ‘wholly or mainly’
involved in investment-related activities.

For more information, see our guide How to Save Inheritance Tax.

Accounting Periods vs Financial Years

A company’s own tax year (also known as its ‘accounting period’)

may end on any date, for example 31st December, 31st March etc.

Corporation tax, on the other hand, is calculated according to

financial years. Financial years run from 1st April to 31st March.
The 2013 financial year is the year starting on 1st April 2013 and
ending on 31st March 2014.

This may be important to understand when calculating how much

tax your company will pay, especially when corporation tax rates
change from one financial year to the next.

For example, on 1st April 2013 the main rate of corporation tax fell
from 24% to 23%. A company with over £1.5 million of taxable
profits, whose accounting period runs from January 2013 to
December 2013, will therefore pay corporation tax as follows:

• 3 months to 31st March 2013 24%

• 9 months to 31st December 2013 23%

Companies with profits of £300,000 or less pay corporation tax at

the small profits rate. The rate is currently 20% and no changes
have been announced for future years. So for these companies it is
not necessary to do two corporation tax calculations. Corporation
tax will be payable at a flat rate of 20% on all of the company’s
profits, even if the accounting period straddles two financial years.

52
 TABLE 5
Self-Employed vs Corporation Tax 2013/14

Self
Profits Employed Company Saving
£10,000 £454 £2,000 -£1,546
£20,000 £3,354 £4,000 -£646
£30,000 £6,254 £6,000 £254
£40,000 £9,154 £8,000 £1,154
£50,000 £13,166 £10,000 £3,166
£60,000 £17,366 £12,000 £5,366
£70,000 £21,566 £14,000 £7,566
£80,000 £25,766 £16,000 £9,766
£90,000 £29,966 £18,000 £11,966
£100,000 £34,166 £20,000 £14,166

Companies as Tax Shelters

Corporation tax is often far lower than the income tax and
national insurance paid by sole traders and partnerships. Table 5
compares the total tax paid by self-employed business owners and
companies at different profit levels. Companies don’t always pay
less tax but, as profits increase, so do the tax savings.

A business owner who uses a company will potentially have far

more after-tax profit left to reinvest. Companies are normally most
powerful as tax shelters when profits are reinvested.

Most company owners need to extract money for their own

personal use. At this point an additional income tax and national
insurance charge may arise.

Further Information

For more information about the tax benefits of companies, see the
Taxcafe guides Using a Company to Save Tax and Using a Property
Company to Save Tax.

53
Chapter 12

Stamp Duty Land Tax

Stamp duty land tax applies to real property (i.e. land and
buildings). The current rates of stamp duty land tax are as follows:

Residential Property
Up to £125,000 0%
Over £125,000, but not over £250,000 1%
Over £250,000, but not over £500,000 3%
Over £500,000, but not over £1m 4%
Over £1m, but not over £2m 5%
Over £2m – general rate 7%
Over £2m – ‘corporate rate’ 15%

Non-Residential Property
Up to £150,000 0%
Over £150,000, but not over £250,000 1%
Over £250,000, but not over £500,000 3%
Over £500,000 4%

The tax payable is always rounded up to the nearest £5.

The ‘corporate rate’ of 15% applies to purchases of residential

properties in excess of £2m by companies and other ‘non-natural’
persons, such as collective investment schemes, unit trusts and
partnerships in which any ‘non-natural’ person is a partner.

The £150,000 threshold for properties in disadvantaged areas has

been abolished with effect from 6th April 2013.

Linked Transactions

The basic rule is that the ‘linked transactions’ are treated as if they
are a single purchase when it comes to calculating the stamp duty
land tax.

54
In practice, it is mainly multiple purchases of non-residential
property that are affected. For example, if a property investor buys
three commercial properties from the same developer at the same
time for £250,000 each, this would be treated as a single purchase
for £750,000. The rate of stamp duty land tax would be 4% instead
of 1%.

Averaging Relief

Averaging relief is available where multiple residential properties

are purchased from the same seller at the same time.

With averaging relief the stamp duty land tax is based on the
average consideration paid for each ‘dwelling’, with an overall
minimum rate of 1%. The relief is not automatic and must be
claimed by the purchaser.

Averaging relief is not available on any dwelling which is worth

more than £2 million in its own right.

Example
Andrew buys five houses from a developer for a total consideration of
£1.2 million. Without averaging relief, stamp duty land tax would be
charged at 5%: £60,000.

However, as the average price for each property is £240,000, Andrew

claims averaging relief, thus reducing the stamp duty land tax rate to
just 1%, resulting in a total tax bill of just £12,000.

Property in Scotland

In Scotland from 1st April 2015 stamp duty land tax will be
replaced by a new Land and Buildings Transaction Tax.

The new tax is likely to be a progressive tax like income tax – as

the price rises, part of the property will be taxed at a higher rate
but not the whole price.

55
Stamp duty land tax, on the other hand, is a ‘slab tax’ – if the price
paid for a property lies above one of the thresholds, the whole
price is taxed at the higher rate.

The final rates and thresholds for the new tax have not been
announced but it is expected that less tax will generally be payable
on lower value transactions and more tax will generally be payable
on higher value transactions.

According to property firm Strutt & Parker “the example scenarios

published with the bill show that anyone buying a property for
more than circa £320,000 will pay more tax than at present”.

Further Information

For detailed information on stamp duty land tax planning see the
Taxcafe guides How to Save Property Tax and Using a Property
Company to Save Tax.

56
 Part 3

Useful Tax Shelters

&
Tax Exemptions

57
Chapter 13

Individual Savings Accounts (ISAs)

The simplest piece of basic tax planning is to make full use of your
annual ISA allowance. Investments in ISAs are completely tax free
for your lifetime – that means that all interest, dividends and
capital gains within the ISA are totally exempt from tax.

Stocks and shares ISAs are available to all UK resident individuals

aged 18 or over. Cash ISAs are available to those aged 16 and over.

Investment Limits

The annual ISA investment limits for 2013/14 are:

• £5,760 cash
• £11,520 overall

You can invest up to £5,760 in a cash ISA and make an additional

investment in a ‘stocks and shares’ ISA, provided the overall total
for both investments is no more than £11,520.

For example, you could invest £5,760 in a cash ISA plus a further
£5,760 in a stocks and shares ISA.

Alternatively, you could invest just £1,000 in a cash ISA and a

further £10,520 in a stocks and shares ISA, or even just invest the
whole £11,520 in a stocks and shares ISA.

You can open one new cash ISA and one new stocks and shares ISA
each tax year. Alternatively, you can continue to invest in a
previous ISA but, once you have done this, you will be unable to
open a new ISA of that type this year.

ISA Transfers

If you want to transfer funds to a different ISA provider (for

example one offering a better interest rate), it is important to
ensure that this is treated as a transfer and not as a closure or

58
withdrawal. Funds withdrawn from the ISA regime lose their tax-
favoured status.

Note that some ISA providers do not accept transfers of existing

ISA pots. For example, Moneyfacts recently reported that just three
of the top 10 variable cash ISAs were accepting transfers, resulting
in many savers becoming ISA prisoners, earning low levels of
interest from their existing providers.

For this reason you should exercise caution when choosing an ISA
and possibly be less tempted by special offers that revert to paying
an uncompetitive interest rate after 12 months.

When transferring an ISA you may also be subject to charges. For

example, when transferring a stocks and shares ISA to another
provider you may be charged a final administration fee plus a fee
for each stock in your portfolio.

ISA Withdrawals

What makes ISAs so attractive is their flexibility – you can

withdraw money tax free at any time.

However some cash ISA accounts do come with a notice period

and you may be subject to a penalty for early withdrawals.

Furthermore, it is important to remember that funds withdrawn

cannot be reinvested once the annual investment limit has been
reached.

In other words, you cannot put back in money you take out if you
have already used up your allowance for the year. A new
investment will, however, be allowed at the start of the next tax
year.

Example
Robin invests £11,520 in a stocks and shares ISA at the start of the
2013/14 tax year. A couple of months later he withdraws some money
to pay for a new car. A couple of months after that, he has some surplus
funds that he would like to invest in his ISA. He will not be able to do
this until the start of the 2014/15 tax year because he has already used
up his £11,520 allowance for 2013/14.

59
Child Trust Funds

Every child born in the UK between 1st September 2002 and 2nd
January 2011 should have a child trust fund.

Parents, family and friends can invest £3,720 in total during the
2013/14 tax year. Just like ISAs, the funds grow free from income
tax or capital gains tax.

On maturity, the funds can be transferred to an ‘adult ISA’.

The Government is currently looking at options to allow child

trust funds to be transferred to junior ISAs. Junior ISAs are
regarded as a more flexible and cost-effective savings vehicle.

Junior ISAs

Junior ISAs were launched on 1st November 2011 and are available
to all UK resident minors who were not eligible for a child trust
fund.

Parents, family and friends may invest up to £3,720 in total during

the 2013/14 tax year.

The accounts convert into adult ISAs when the child reaches the
age of 18. No withdrawals are permitted before this time, however.

Making the Most of Your ISAs

We all know that ISAs are tax free but most people don’t maximise
the tax savings from this powerful tax shelter. For most people
ISAs aren’t that important when it comes to saving capital gains
tax because every individual can enjoy tax-free capital gains of
£10,900 per year anyway (2013/14 figures). Couples can enjoy tax-
free capital gains of £21,800 this year.

ISAs are, however, fantastic income tax shelters. There aren’t many
reliefs or exemptions to protect you from paying income tax. As a
result, higher-rate taxpayers normally pay 40% tax on their
interest income and 25% tax on their cash dividends.

60
Clearly anyone who wants to invest in assets that produce income
(e.g. bonds or shares with high dividend yields) has a lot to gain
by investing through an ISA.

It is also important to understand that cashing in your ISAs means

that the tax savings on the accumulated funds will cease
thereafter. It may therefore be better to hold on to your ISAs and
use the money to continue to generate tax-free income.

Example
David and Samantha invest £14,000 per year for 15 years in an ISA.
We’ll assume the portfolio grows by 8% per year. At the end of the
investment period the couple will end up with an impressive £410,540.

Let’s say they keep the money inside their ISA but switch to an income
fund paying a tax-free interest income of 5% per year. The couple will
end up with a tax-free income of £20,527 per year.

If the money was outside an ISA they would only receive an after-tax
income of £12,316: £410,540 x 5% income less 40% income tax =
£12,316.

In other words, by holding on to their ISA savings they will end up

with 67% more income. This example shows ISAs at their most
powerful: when used to generate tax-free income.

ISAs & Inheritance Tax

While ISAs are a valuable tax-saving tool, investors should beware

of one thing: ISAs are only exempt from tax during your lifetime.
ISAs are not exempt from inheritance tax and the funds lose their
tax-free status when passed on to your heirs.

Further Information

For further information, see the Taxcafe guide Pension Magic.

61
Chapter 14

Pensions

Although they sometimes get a bad press, pensions are one of the
best tax shelters around. When you make pension contributions
you can benefit from two types of tax relief:

#1 Basic-Rate Tax Relief

The taxman will top up your savings by paying cash directly into
your pension plan. Effectively, for every £80 you invest, the
taxman will put in an extra £20. This tax relief is known as basic-
rate tax relief because it is essentially a refund of the first 20% of
income tax you have to pay.

The company that manages your pension plan – usually an

insurance company or SIPP provider – will claim this money from
the taxman and pay it into your pension pot.

Whatever contribution you make personally, divide it by 0.80 and

you’ll get the total amount that is invested in your pension plan.
This is known as your gross pension contribution.

Example
Peter invests £8,000 in a self-invested personal pension (SIPP). After the
taxman makes his top-up payment, Peter will have £10,000 sitting in
his pension pot:

£8,000/0.80 = £10,000

Peter’s gross pension contribution is £10,000.

#2 Higher Rate Relief

If Peter is a higher-rate taxpayer, paying income tax at 40%, he’ll

be able to claim an additional 20% tax relief. How is higher-rate
relief calculated? When you make pension contributions the
taxman gives you a bigger basic-rate band, which means more of

62
your income is taxed at 20% instead of 40%. Your basic-rate band
is increased by the same amount as your gross pension
contributions.

Put simply, most taxpayers can calculate their higher-rate relief by

multiplying their gross pension contributions by 20%.

Example continued
As we already know, Peter’s personal contribution is £8,000 and his
total gross pension contribution, which includes the taxman’s top-up, is:

£8,000/0.80 = £10,000

Multiplying the gross contribution by 20% we obtain his higher-rate

relief:

£10,000 x 20% = £2,000

Effectively he has a pension investment of £10,000, which has cost

him just £6,000 (£8,000 personal contribution less £2,000 higher-
rate tax relief). In other words, he is getting all of his investments
at a 40% discount.

Pension Contribution Limits

The good news is that everyone under the age of 75 can make a
pension contribution of £3,600 per year, regardless of earnings.

The actual cash contribution would be £2,880, with the taxman

adding £720 to bring the total gross contribution to £3,600.

If you want to make a bigger contribution they have to stay within

certain limits:

• Earnings. Contributions made by you personally must not

exceed your annual earnings.

• The Annual Allowance. Total pension contributions by

you and anyone else (normally your employer) must not
exceed £50,000 in 2013/14. The annual allowance will be
cut to £40,000 in 2014/15.

63
Earnings include your salary, bonus and commission (if you are an
employee) and if you are self-employed, the pre-tax profits of the
business.

Earnings do not include rental income, interest, dividends and

capital gains.

The above pension contribution limits are for gross pension

contributions. In other words, if you have earnings of £35,000 you
cannot pay £35,000 into your pension plan. You can only pay in
£28,000 (£35,000 x 0.8). The taxman will add a further £7,000 in
tax relief, bringing your total gross pension contribution to
£35,000.

Similarly, the £50,000 annual allowance is a cap on total gross

pension contributions. So the maximum cash pension
contribution an individual can make in 2013/14, in the absence of
any employer contributions, is £40,000 (£50,000 x 0.8), with the
taxman adding a further £10,000 in tax relief.

Annual Allowance Carry Forward

If you want to make a big pension contribution of over £50,000 in

2013/14, you may be able to tap any unused allowance from the
three previous tax years.

This means you can potentially make a pension contribution of up

to £200,000 and enjoy full tax relief (£50,000 for the current tax
year and £50,000 for each of the previous three tax years).

There is one important proviso – if you want to carry forward

unused annual allowance from a particular tax year, you must
have been a member of a registered pension scheme in the year in
question.

On a practical level, this means that someone who does not

currently have a pension plan in place, but may wish to make big
contributions in a few years’ time, should consider setting one up
as soon as possible.

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Maximising Higher-Rate Relief

Most people do not make pension contributions anywhere close to

£50,000 and are completely unaffected by the annual allowance.
Most would also never contemplate contributing anything close to
100% of their earnings to a pension.

The maximum pension contribution you can make is often not the
important issue. What is far more important is the maximum
pension contribution you should make.

For example, if maximising tax relief is your priority, you should

make sure your gross pension contributions do not exceed the
amount of income you have taxed at 40%.

To maximise your tax relief you may want to consider spreading a

big pension contribution over a number of tax years.

Example
Sandy is a sole trader with pre-tax profits of £50,000 in 2013/14. He
has £8,550 of income taxed at 40% (£50,000 - £41,450).

Sandy puts £15,000 into his pension. The taxman adds £3,750 of
basic-rate relief. His gross contribution is £18,750 (£15,000/0.8).

His basic-rate band is increased by £18,750 which means his maximum

higher-rate tax relief is:

£18,750 x 20% = £3,750

However, Sandy doesn’t have £18,750 of income taxed at 40%, he only

has £8,550. So the actual higher-rate relief he will receive is:

£8,550 x 20% = £1,710

Although his basic-rate band has been increased significantly, he

doesn’t have enough income to use it! Sandy is only obtaining
higher-rate tax relief on £8,550 worth of pension contributions. In
total he enjoys just 29% tax relief:

(£3,750 + £1,710) / £18,750 = 29%

65
What can Sandy do if he wants to enjoy the maximum higher-rate
relief? He should spread his pension contributions over several tax
years.

If he wants to invest £15,000 (£18,750 gross) and if we assume he

has £8,550 of income per year taxed at 40%, this means he could
consider spreading his gross contributions over three tax years:

Year 1 £8,550
Year 2 £8,550
Year 3 £1,650

Rule of Thumb

If maximising tax relief is your priority, the maximum amount

you should contribute to a pension in the 2013/14 tax year is:

Your taxable income minus £41,450

This is your maximum gross pension contribution. Multiply this

number by 0.8 to obtain the maximum amount you can actually
invest (your net cash contribution).

Table 6 contains some sample maximum pension contributions for

different levels of income.

Although you can contribute up to £50,000 per year to a pension

(ignoring any employer contributions), only someone with
income of at least £91,450 would enjoy full higher-rate tax relief
on such a large gross contribution:

£91,450 - £41,450 = £50,000

In Table 6 someone with income of £95,000 or £100,000 could

contribute more than £50,000 and enjoy higher-rate tax relief on
the entire contribution. However, to do this in practice they would
have to carry forward unused annual allowance from previous tax
years.

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 Table 6
Maximising Higher-Rate Tax Relief:
Maximum Pension Contributions 2013/14

Taxable Maximum Gross Maximum Net

Income Contribution Contribution
£ £ £
45,000 3,550 2,840
50,000 8,550 6,840
55,000 13,550 10,840
60,000 18,550 14,840
65,000 23,550 18,840
70,000 28,550 22,840
75,000 33,550 26,840
80,000 38,550 30,840
85,000 43,550 34,840
90,000 48,550 38,840
95,000 53,550 42,840
100,000 58,550 46,840

Lifetime Allowance

The lifetime allowance is the maximum amount of pension

savings you are allowed to accumulate with tax relief. If you
exceed the lifetime cap you get fined – the Government hates it
when wealthy people save tax!

The cap is currently £1.5 million but will be reduced to £1.25

million from 2014/15.

Further Information

If you would like further information about making the most of

your pension savings and increasing your tax relief, see the
Taxcafe guide Pension Magic.

67
Chapter 15

Venture Capital Trusts

Venture capital trusts (VCTs) offer some mouth-watering tax

breaks:

• 30% income tax relief (i.e. if you invest £10,000, you get a
£3,000 income tax refund)
• Tax-free dividends
• Tax-free capital gains when you sell your shares

Income Tax Relief

The main reason people invest is for the upfront income tax relief.
There are some additional points to note about this relief:

• The maximum investment in 2013/14 is £200,000 per

person, so the maximum initial tax saving is £60,000.

• The 30% up-front tax relief is available only if your income

tax bill for the year is high enough. So if you invest
£10,000, your maximum tax relief is £3,000. But if your tax
bill for the year is only £2,000, your tax relief will be
limited to £2,000.

• VCTs provide income tax relief only. They do not reduce

your capital gains tax or national insurance.

• You can no longer defer capital gains tax from the sale of
property or other assets by investing in a VCT.

• Many VCTs pay dividends and allow you to reinvest this

income. Income tax relief at 30% may also be available on
reinvested dividends.

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VCTs vs ISAs & Pensions

What makes VCTs more attractive than other tax shelters,

including ISAs and pensions, is the double tax relief: when you put
your money in AND when you take it out.

Pensions provide tax relief when you put your money in but your
withdrawals are taxed. You can withdraw 25% of your fund as a
tax-free lump sum when you retire but you have to pay income tax
on everything else, including the accumulated income and capital
gains within the fund and your original contributions.

ISAs, by contrast, allow you to make tax-free withdrawals of

income and capital gains but do not provide any up front tax relief
for your initial contributions.

So venture capital trusts offer the best of both worlds and are
arguably the most generous tax shelters available.

Even if you only receive back your original money after five years,
with no capital gains or dividends, you will still have enjoyed a
return of around 7% per year, thanks to the initial tax relief.

So What’s the Catch?

The first catch with VCTs is you have to invest for a minimum
period of five years. Depending on your age, pensions can be even
more restrictive: you cannot touch your money until you reach
age 55. ISAs, on the other hand, allow you to withdraw your
money tax free at any time.

An ISA is therefore the only tax shelter that comes with no strings
attached and is the best investment for those who want easy access
to their money.

The second, and most important, catch with VCTs is that they
have to invest your money in the smallest and arguably most risky
companies. This, after all, is why the Government created such a
generous tax shelter in the first place: it wants to encourage
investment in small, expanding companies.

69
With pensions and ISAs, on the other hand, you can invest in the
biggest blue chip companies, as well as small companies, corporate
bonds, property unit trusts and cash.

Qualifying Companies

Venture capital trusts have to put at least 70% of their money in

‘qualifying’ companies. These are companies that comply with the
following rules:

• They must have no more than £15 million of gross assets

• They must have fewer than 250 employees
• They must not be listed on a recognised stock exchange.
(Many AIM shares do, however, qualify as VCT
investments.)
• They must not be involved in certain activities, including
land dealing, financial activities, property development,
legal and accountancy services, leasing or letting assets,
farming, hotels, guest houses, and nursing homes.

The £15 million ceiling and ban on stock exchange companies

means that most VCTs invest in small, privately owned firms. This
makes them a highly speculative investment.

Some readers may feel that they already have ample exposure to
this type of investment, namely their own businesses!

Illiquid Investments

A major drawback of VCTs is their lack of liquidity. The trusts

themselves are quoted on the London Stock Exchange but you
may struggle to sell your shares at a decent price when the five-
year period is up.

Why? Because the 30% income tax relief – the only reason most
people invest in venture capital trusts – is only available on new
VCT shares.

Investors who buy ‘second-hand’ VCT shares are entitled to tax-

free dividends but the all-important 30% tax refund is denied. For
this reason, there are very few people willing to buy VCT shares
from exiting investors.

70
Some VCTs offer a buy-back facility which lets you sell back your
shares at close to their net asset value and buy new ones in the
same VCT with another round of income tax relief.

This option is worth considering if you are happy to tie up your

money for another five years and you are happy with your existing
manager’s investment performance.

In documents accompanying the March 2013 Budget, the

Government stated that it was concerned that VCTs offering these
‘enhanced buy-backs’ were not operating within the spirit of the
legislation. So there could be a crackdown on this strategy that
allows investors to double their income tax relief at some point in
the near future.

Some VCT managers have also attempted to solve the liquidity

problem by launching “Planned Exit” VCTs – the funds are wound
up after five years and all the money is distributed to investors.

Further Information

For more information about VCTs in general, as well as current

offerings, go to:

• www.trustnet.com
• www.hl.co.uk/investment-services/venture-capital-trusts
• www.taxshelterreport.co.uk

71
Chapter 16

Enterprise Investment Schemes

Enterprise investment scheme (EIS) shares provide the following

tax benefits:

• 30% income tax relief. In other words, if you invest

£10,000, you could reduce your income tax on your salary
or other income by £3,000.

• Capital gains tax reinvestment relief. If you sell an asset (eg

a rental property) you can postpone paying capital gains
tax by investing the proceeds in EIS shares.

• Tax-free capital gains when you sell your EIS shares.

The current annual investment limit is £1 million per tax year.

There are two main types of EIS: approved and unapproved.

Approved are required to invest 90 per cent of funds raised within
12 months of the launch date. With an approved EIS fund,
investors receive income tax relief in the year the investment is
made.

With an unapproved fund, on the other hand, income tax relief is

granted each time the fund invests in qualifying companies.

Income Tax Relief Carry Back

Enterprise investment scheme investments can be carried back for

income tax relief in the previous tax year. This is useful for
taxpayers who want to invest more than £1 million.

The carry back facility can also be used to maximise the income
tax relief obtained on investments of less than £1 million. This is
because income tax relief is given at the lower of 30% or your
actual income tax bill. So a large investment made by someone
with relatively small income may not receive full income tax relief
unless the carry back facility is used.

72
Example
Cynthia has income of £90,000 in both the 2012/13 and 2013/14 tax
years, resulting in income tax bills £25,884 and £25,822 respectively.
In November 2013, she invests £160,000 in enterprise investment
scheme shares.

Cynthia’s maximum tax relief in 2013/14 alone is £25,822, ie her tax

relief is limited to her actual income tax bill. In other words, the
maximum investment she can make in 2013/14 with full income tax
relief is £86,073 (£86,073 x 30% = £25,822).

However, by carrying back £73,927 (£160,000 - £86,073) of her

investment to 2012/13, she can obtain further income tax relief of
£22,178 (£73,927 x 30%). Her total tax relief is now the maximum
£48,000, ie 30% of £160,000.

Because £22,178 of Cynthia’s tax relief is obtained a year earlier, this

will reduce the tax she has to pay on 31st January 2014 or result in a tax
repayment.

Postponing Capital Gains Tax

The investment must take place within three years of selling the
asset. It can also take place up to a year before you sell the asset.

There’s no limit on the amount that can be invested in Enterprise

Investment Scheme shares if you need to defer a big capital gain.

However, it’s important to stress that Enterprise Investment

Scheme shares let you postpone capital gains tax but do not
avoid it altogether. The gain you postpone becomes subject to
capital gains tax when those shares are sold.

What Are EIS Shares?

Enterprise investment schemes are not listed on the stock

exchange, making them potentially illiquid investments.

Like venture capital trusts, the company issuing the shares must
have gross assets of less than £15 million and fewer than 250
employees.

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They are inherently risky investments so professional advice is
essential.

There are EIS funds that invest in a spread of companies and there
is the single company EIS that invests in just one company.

Restrictions

To obtain income tax relief, you must not be connected with the
company issuing the shares. This means you must not own 30% or
more of the shares after the enterprise investment scheme shares
have been issued.

EIS shares must be held for at least three years (sometimes longer).
The issuing company must also carry on a ‘qualifying trade’
(broadly one which is not property-based) throughout this period.

The income tax relief on the initial investment will be withdrawn

if any of these conditions are breached.

74
Chapter 17

The Seed Enterprise Investment

Scheme (SEIS)

The seed enterprise investment scheme (SEIS) provides more

generous income tax relief than the enterprise investment scheme
but is also more restrictive.

The main tax benefits include:

• Income tax relief at 50%

• Capital gains tax reinvestment relief
• No capital gains tax when you sell your shares after a three
year qualifying period

The maximum investment is £100,000 per tax year.

Income tax relief can only be used to reduce your income tax bill
to zero. In other words, if you invest £100,000 and your income
tax liability for the year is £20,000, you will receive income tax
relief of £20,000, not £50,000 (50%). However, there is a carry
back facility which allows all or part of the relief to be given in the
previous 2012/13 tax year as well.

Reinvestment Relief

If you realised a capital gain in 2012/13 (for example if you sold an

investment property) it is possible to elect to re-invest that gain in
SEIS shares in 2013/14 and the gain will be exempt from capital
gains tax. This can produce total tax relief of 78% on the
investment (50% income tax relief plus 28% capital gains tax
saving).

In the March 2013 Budget it was also announced that CGT

reinvestment relief for investments in SEIS shares has been
extended to gains arising in 2013/14.

To be eligible for relief, gains arising in 2013/14 need to be

reinvested in eligible SEIS shares during 2013/14 or 2014/15.

75
Unlike gains arising in 2012/13, however, only half of the
qualifying amount will be exempted. In effect this halves the CGT
rate on such gains.

The SEIS tax break itself is temporary and only applies to shares
issued between 6th April 2012 and 5th April 2017 (although it
may be extended beyond 2017 if it proves successful).

SEIS Restrictions

Companies can only receive £150,000 a year from SEIS investors.

The scheme is aimed at new start-up companies (less than two
years old) but this may include an existing company starting up a
new trade.

The company must also have total assets worth no more than
£200,000 (before issuing the shares) and less than 25 full-time
employees.

The company must be carrying on a qualifying trade or research

and development. Most property-based businesses and professions
such as accountants and lawyers do not qualify.

Investors must not be employees, but may be directors.

You or your associates are not allowed to hold more than 30% of
the company’s shares.

Associates include business partners, spouses, parents and

grandparents, children and grandchildren.

However, brothers and sisters are not counted as associates, nor are
unmarried couples.

There are lots of other restrictions so professional advice is

essential.

76
Chapter 18

These Amounts Are

Always Tax Free

Each year more tax loopholes are closed. However, there are still
lots of things that are completely tax free. We’ve covered many of
them in this guide already. This chapter provides details of some
other exemptions and reliefs that can be enjoyed by business
owners and individual taxpayers:

Gifts of Cash

If you transfer an asset to anyone other than your spouse, for

example your adult children, you will generally have to pay capital
gains tax if the asset has risen in value.

However, gifts of cash are tax free. So for example you could give
£20,000 to your adult daughter as a deposit for a rental property. If
her income tax rate is lower than your own there will be less tax to
pay on the rental profits.

The only tax to potentially worry about is inheritance tax but this
threat disappears if you survive for seven years.

Of course this type of tax planning is only suitable for those who
don’t mind giving money away to family members.

Children’s Investment Income

Children are entitled to an income tax personal allowance of

£9,440, just like anyone else. A form R85 can be completed so they
receive their interest without tax taken off.

However, where gifts from a parent produce income of more than

£100 per year, that income is taxed as the parent’s. The £100 rule
applies until the child is 18 or marries (whichever happens first).

77
However, the £100 rule does not apply to gifts from grandparents,
other relatives or friends.

Bottom line: Every child can earn tax-free income of up to £9,440

if the original capital comes from their grandparents.

One way for parents to get around the £100 rule is to set up junior
ISAs for their children, where eligible.

Premium Bonds

Instead of paying you interest, your money goes into a draw and
you could win a prize ranging from £25 to £1 million. These
amounts are completely tax free.

Rent from Lodgers

If you rent out part of your home (more specifically, your main
residence) to a lodger the rent is totally tax free if it does not
exceed £4,250 per year – no matter how much other income you
have. The figure of £4,250 includes any contributions towards
household costs, eg food and utility bills.

If you receive, say, £6,000 from your lodger you can still claim
rent-a-room relief, and only the excess (£1,750 in this case) will be
taxable. If the income is shared with someone else, eg your spouse,
you can only claim a tax-free amount of £2,125 each.

You have to claim the relief on your tax return (Box 4 of the UK
property page).

Tax-free Mortgage Interest

A mortgage is generally an expense but in some circumstances

they can be used to produce a type of tax-free income:

Paying off Debt

Not paying interest is always much better than earning it. For
example, if paying off £10,000 of debt means you don’t have to
pay 5% interest on that debt (£500), you have effectively earned

78
5% tax free. That’s a lot better than earning, say 0.5% after tax
from a savings account!

If you want to keep ready access to your cash, one way you can do
this is by taking out an offset mortgage. The way it works is the
bank stops paying you interest on your savings and starts charging
you less interest on your mortgage.

Example
Jean is a sole trader with £30,000 in her business bank account earning
1.5% per year. After paying 40% tax she is left with £270. With an
offset mortgage her £30,000 business cash would be subtracted from her
mortgage balance. If the mortgage interest rate is 3.75% this will save
her £1,125 interest per year: £30,000 x 3.75%. In summary, without
an offset mortgage Jean earns £270 interest. With an offset mortgage,
she saves £1,125 per year. Her overall saving is £855 per year.

Remortgaging

If you have enough equity in a property you may be able to

remortgage and receive a cash lump sum. This amount will not be
subject to income tax or capital gains tax, even if it’s an
investment property.

However, you have to watch out for the interest charges as these
can soon add up and outweigh the potential capital gains tax bill.
All in all, probably not a great strategy if you are using the money
to pay your living expenses.

Gambling Winnings

In the United States gambling winnings are taxable. Not so in the

UK – here gambling winnings are completely tax free. In other
words, in the unlikely event that you make some money at your
local casino or from having a flutter on a horse, your windfall will
be tax free.

There’s another type of betting, that some would say involves

more skill than roulette or blackjack, and is also completely tax
free: financial spread betting. To succeed at spread betting you
have to correctly predict the direction of a company’s share price

79
over the next, say, six months or what will happen to a currency
or commodity.

So, in theory, if you make a billion pounds betting against Sterling,

like George Soros did, the profit will be completely tax free,
provided the transaction takes place via a spread betting account,
instead of using traditional financial instruments.

Gold Coins

Investing in gold has been all the rage in recent years. Hardly
surprising considering the gold price has risen from $250 per
ounce in 1999 to around $1,600 today.

If you invest in a gold exchange traded fund (ETF), your profits

will be free from capital gains tax if the ETF is held inside an ISA.
However, some people distrust electronic assets like ETFs, fearing
they could go up in a puff of smoke, as many of the creations of
clever bankers are prone to do.

Across the world, from America to Australia, via India and the Far
East, you will find an army of gold bugs who like to hoard the real
thing – gold bullion kept hidden in a secret place where
unscrupulous banks and governments cannot get their hands on
it.

And what about the UK? Unfortunately when you sell gold bullion
here your capital gains are taxable. However, there is an exception
to this rule: British Sovereign and Britannia gold coins. These are
generally legal tender, which means, like other UK currency, they
are exempt from capital gains tax.

Your Car

If you make a profit when you sell your car the capital gain is
completely tax free.

Of course, most cars are sold for much less than the original
purchase price. However, this exemption could come in handy, for
example, if you have found a bargain in the classifieds or buy a
collectable car that rises in value.

80
For example if you buy a fancy sports car and sell it five years later
for £50,000 more than you paid for it, the profit will be completely
tax free.

This exemption does not apply to car dealers, of course.

Wasting Assets

Other so-called ‘wasting assets’ are also not subject to capital gains
tax. This exemption covers assets with a predicted lifespan of 50
years or less.

Typical assets that qualify are mechanical assets, including antique

clocks. Assets on which capital allowances have been claimed (ie
business assets) are subject to different rules.

Contrary to popular opinion, fine wine is not necessarily a tax-free

wasting asset. Less valuable table wine that will become
undrinkable within a relatively short space of time probably is a
tax-free wasting asset.

Antiques, Jewellery and Paintings

Apart from the tax exemption for wasting assets, personal

possessions worth up to £6,000 each can be sold without any
capital gains tax being payable.

Jewellery, paintings and antiques all qualify as personal

possessions, as do more mundane things like sofas and fridges.

If you sell a personal asset for more than £6,000 (say £6,001) you
will be pleased to hear that the gain does not suddenly become
completely taxable. For assets valued at between £6,000 and
£15,000 the taxable gain is calculated as follows:

• Take the selling price (market value if given away) and

subtract £6,000
• Multiply this figure by 5/3
• Compare this with your actual capital gain
• The lower amount is the taxable amount.

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Example
In November 2013 Derek sells an antique for £7,500.
Step 1: The amount received is £1,500 more than the £6,000
exemption. Multiplying £1,500 by 5/3 Derek gets a figure of £2,500.
Step 2: Derek sells the antique for £7,500. It cost him £2,000. So the
actual gain is £5,500.
Step 3: Derek’s chargeable gain is the lower amount of £2,500.

Tax-free Lump Sums

Certain lump sums you receive are tax free:

• Redundancy payments of up to £30,000

• 25% of your pension savings
• Insurance payouts, eg if your car is stolen
• Personal injury compensation

Childcare Vouchers

It is possible for employees to sacrifice some salary in exchange for

childcare vouchers. These will save you income tax and national
insurance and, by reducing your income, may also help you
reduce the child benefit charge (see Chapter 7).

The basic idea is that the employer gives the employee a childcare
voucher. The employee gives the voucher to a childcare provider.
The childcare provider returns the voucher to receive payment.

For higher-rate taxpayers who join schemes after 5th April 2011,
the tax-free amount is limited to £28 per week or £1,484 per year.

The tax-free limit applies per parent, not per child. In other words,
if you have three children the maximum annual exemption is still
£1,484 per year per parent.

However, if you have several children, the small reduction in your

income could produce a significant reduction in the child benefit
charge:

Example
Guy earns £55,000 and is the highest earner in the family. His wife
Tumi receives child benefit of £3,146 for four children.

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Guy sacrifices £1,484 of salary in exchange for childcare vouchers. This
will save him £623 in income tax and national insurance (£1,484 x
42%).

The reduction in his income to £53,516 will also result in him paying a
child benefit charge of 35% instead of a 50%. Additional saving: £472.

As with all salary sacrifices, the scheme must be structured

correctly. For example, the employee’s employment contract must
be changed correctly, the childcare voucher scheme must be open
to all employees and the childcare must be provided by a
registered child carer.

Benefits in Kind

The following are some of the benefits that can be provided to

company employees completely tax free (ie no income tax or
national insurance):

• Workplace car parking

• Pension contributions
• One mobile phone
• Staff parties (costing up to £150 per head)
• Relocation costs
• Relevant training
• Bicycles
• Long-service awards
• In-house gyms and sports facilities
• Cheap/free canteen meals
• Gifts unconnected with work (e.g. wedding gifts)
• Electric cars
• Business mileage payments
• Work and safety clothes
• Overnight expenses if away on business

Loans to Your Company

If you lend money to your own company, you can extract it tax
free. This may sound obvious but many business owners forget
that they have actually lent money to their companies.

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For example, let’s say you start a business and spend money
buying things like computers before the company is actually
incorporated. These expenses are classed as pre-trading
expenditure and when the company has the money, it can repay
the loan to you with no tax consequences and claim the expenses
against sales as usual.

Similarly, if you buy things for your company using your personal
credit card, always remember to get the company to reimburse you
because these repayments are tax free.

Travel Reimbursement

If you do any business journeys in your own car your company

can reimburse you at the rate of 45p per mile for the first 10,000
miles and 25p thereafter. You can also claim an extra 5p per mile
for each passenger that travels with you for business reasons.

The money paid to you by your company will be tax free in your
hands and the company can claim the amount as a tax deduction.

Loan from Employers

Employees can borrow up to £5,000 each from their employers

without having to pay any income tax or national insurance.

This limit will be increased to £10,000 with effect from 6th April
2014.

Dividends

Dividends are tax-free in the following circumstances:

You are a basic-rate taxpayer

If your income is less than £41,450 (2013/14) you will not pay any
income tax on your dividends.

Couples can extract tax-free dividends from their companies

thanks to this rule. Another group that can benefit from this rule
are non-working spouses and retirees, regardless of whether they

84
own a company or not. For example, a basic-rate pensioner trying
to decide whether to invest in a blue-chip share paying a 5%
dividend or pretty much any other investment (rental property,
interest) paying the same 5% should remember that the dividend
will be tax free but the other investments will be subject to 20%
income tax.

You are non-resident

Income from many UK sources, eg rental properties, remains

subject to UK tax when you emigrate. Dividends, on the other
hand, are completely tax free (just ask Philip Green who paid his
Monaco-based wife a tax-free dividend of £1.2 billion in 2005).

However, watch out for the new anti-avoidance rule that prevents
taxpayers becoming temporarily non-resident in order to pay
themselves big tax-free dividends.

Interest when Non-Domiciled

While we’re talking about overseas tax issues, non-domiciled

individuals (e.g. many foreign nationals living in the UK) do not
have to pay any tax on their overseas income and capital gains,
provided they are less than £2,000 per year.

For example, a non-dom couple could keep just under £80,000

invested offshore in a portfolio of assets paying 5% income and
not one penny of income tax will be payable.

Foreign Currency Gains

Since 6th April 2012 capital gains from foreign currency bank
accounts have been tax free. This change has created a new tax-
free investment opportunity for all UK individual taxpayers.

For example, let’s say you transfer £100,000 into a US dollar

account and the dollar strengthens so that your investment is
worth £115,000. The £15,000 gain will be completely tax free – in
the past it would have been taxable.

85
Although the exemption could prove useful to those wanting to
trade currencies, it should be pointed out that you can also make
tax-free currency bets using exchange trade funds held inside an
ISA or SIPP.

Another group of individuals who may benefit from this

exemption are owners of foreign investment properties.

Exchange rate gains from selling the properties themselves

continue to be taxed: the new exemption only applies to gains
from foreign currency bank accounts.

However, if you hold foreign currency, for example to buy an

overseas investment property or after an investment property has
been sold, any exchange rate gain on the currency is no longer
subject to capital gains tax.

This tax exemption applies only to individuals and not companies.

86
 Part 4

Recent Tax
Changes

87
Chapter 19

Individual Tax Changes

Childcare Costs

Starting in Autumn 2015 a new childcare scheme will provide 20%

basic rate tax relief on up to £6,000 of eligible childcare costs per
child (ie a tax saving of up to £1,200 per child).

The scheme will be available where:

• Both parents work

• Neither parent earns more than £150,000
• Neither parent receives tax credits

It will replace childcare vouchers and will be available to self-

employed individuals as well as salary earners. It will initially
apply to children under 5 and eventually to children under 12.

Details of the new scheme are still being decided but it is expected
that parents will open an online voucher account with a voucher
provider and have their payments topped up by the Government.
For every 80p you pay in, the Government will put in 20p up to
the annual limit.

Parents will be able to use the vouchers for any Ofsted regulated
childcare in England and the equivalent bodies in Scotland, Wales
and Northern Ireland.

Tax-free Loans

If an employer provides an employee with a cheap or interest-free

loan, a benefit in kind charge is payable by the employee.
However, there is an exemption for loans of up to £5,000.

This limit will be increased to £10,000 with effect from 6th April
2014.

88
National Insurance

The lower contracted-out national insurance rates will cease in

2016. Those who currently pay these rates – members of salary-
related employee pension schemes – will pay more national
insurance but will receive a bigger state pension when they retire.

Inheritance Tax

Deduction of Liabilities

Debts are usually deducted when calculating an individual’s

taxable estate for inheritance tax purposes.

Up until now debts have been deductible even if they were

contrived debts that were never repaid.

Loans have also been used to buy assets that are exempt from
inheritance tax, for example assets that qualify for business
property relief.

When the 2013 Finance Bill receives Royal Assent, new restrictions
will apply to the deduction of liabilities:

• Deductions will generally only apply to the extent that the

liability is actually repaid to the creditor (except in the case
of anniversary charges for trusts).

• Deductions will not be allowed to the extent that the

liability was incurred in order to acquire excluded property.

• Liabilities incurred in order to acquire property qualifying

for business property relief, agricultural property relief or
woodlands relief will have to be deducted from the value of
the qualifying property.

These changes will block a number of popular IHT planning

methods and dash yet more families’ aspirations!

Full details of the changes can be found in the latest edition of

How to Save Inheritance Tax.

89
Non-Domiciled Spouses & Civil Partners

Transfers between husbands and wives and civil partners are

generally exempt from inheritance tax without limit.

However, there is a lifetime limit where the recipient is non-

domiciled and the transferor is UK domiciled. Since the 1980s the
limit has been £55,000.

It has now been increased to £325,000 for transfers taking place

from 6th April 2013 onwards. In future it will be aligned with the
nil rate band.

Alternatively, non-domiciled spouses and civil partners may

instead elect to be treated as UK domiciled for IHT purposes.

Such an ‘opt-in’ election may be backdated by up to 7 years (but

no earlier than 6th April 2013).

Exercising the ‘opt-in’ election would allow transfers to such

spouses to be fully exempt but would then mean that the
transferee’s estate is fully exposed to inheritance tax.

The ‘opt-in’ election is irrevocable but ceases to have effect after

four consecutive tax years of non-residence.

Settlements (Trusts)

Further consultations on proposed changes to the anniversary and

exit charges applying to trusts are to take place with the aim of
bringing legislation forward in Finance Bill 2014.

90
Mansion Taxes

Three major taxes are to apply to UK residential property valued at

over £2 million which is held by a ‘non-natural person’
(companies, partnerships where a company is a partner and
collective investment schemes):

• 15% stamp duty land tax (introduced in March 2012)

• Capital gains tax at 28% when the property is sold after 6th
April 2013. This is higher than the corporation tax that
would be payable by a UK company and will bring foreign
companies into the UK tax net. If the property was
purchased before 6th April 2013, 28% CGT will only apply
to gains that accrue from 6th April 2013 (although
corporation tax may apply to earlier gains).

• An ‘annual tax on enveloped dwellings’ (from 1st April

2013).

The annual tax on enveloped dwellings will be levied as follows:

Property Value Charge

£2 million - £5 million £15,000
£5 million - £10 million £35,000
£10 million - £20 million £70,000
Over £20 million £140,000

The annual charge will be increased in line with the consumer

prices index. There are some exemptions including for working
farmhouses or other employee accommodation.

91
Company Cars & Fuel

Company Car Charges

From 2015/16 onwards two new CO2 emission bands will be

introduced for the benefit-in-kind charges on company cars:

• CO2 emissions 0-50g/km – 5% benefit-in-kind charge in

2015/16 and 7% in 2016/17

• CO2 emissions 51-75g/km – 9% benefit-in-kind charge in

2015/16 and 11% in 2016/17

Charges on other cars will range from 13% to 35% in 2015/16 and
from 15% to 37% in 2016/17.

Fuel Benefit

The fuel benefit charge for 2013/14 is:

• Cars £21,100
• Vans £564

The taxable amount is found by multiplying the above fuel benefit

charge by the benefit-in-kind percentage. For example, if the
benefit-in-kind rate is 35%, the taxable amount is £7,385 (£21,100
x 35%). This amount is added to your income and taxed.

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Employee Share Schemes

Employee Shareholders

The new status of ‘employee shareholder’ is to be introduced from

1st September 2013. Employees will forfeit some of their
employment rights in exchange for shares in the business.

Individuals adopting employee shareholder status will enjoy the

following tax breaks:

• An income tax and national insurance exemption on up to

£2,000 of shares they receive

• A CGT exemption on up to £50,000 of shares

The £2,000 exemption may not be generous enough to encourage

employees to give up any of their employment rights. Any
additional shares received will result in a tax charge (with the
employee possibly not having the cash to pay it).

At the time of writing, employee shareholder status was in doubt

following a House of Lords vote against the proposal.

Enterprise Management Incentive (EMI) Shares

The Enterprise Management Incentive Scheme is a share option

scheme that allows employees to acquire shares with profits
subject to capital gains tax instead of income tax.

Entrepreneurs Relief (which allows capital gains tax to be paid at

10% instead of 28%) is being extended to EMI shares. To qualify
for Entrepreneurs Relief you normally have to own company
shares for at least 12 months. The rules will be changed so that the
length of time the option is held will be included in the qualifying
period.

It will also not be necessary for EMI shareholders to own 5% of the

company, as is normally required to qualify for Entrepreneurs
Relief.

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AIM Shares

Two changes have been announced that will increase the

attractiveness of AIM shares and other shares quoted on “growth
markets”:

• Stamp duty. From April 2014 there will be no stamp duty

payable on AIM shares (currently 0.5%).

• ISAs. The Government is currently consulting on whether

to allow AIM shares into ISAs. It expects to publish draft
regulations to lay before Parliament in the summer of 2013.

Income Tax Relief Cap

With effect from 6th April 2013 a cap has been placed on some
income tax reliefs.

The total amount of relief that any individual may claim under all
of these reliefs taken together is limited to the greater of:

• £50,000, or
• 25% of their ‘adjusted total income’

Broadly speaking, ‘adjusted total income’ is your total taxable

income less gross pension contributions but before deducting any
other reliefs.

The restriction will not apply to charitable donations, as first

feared. Loss relief on Enterprise Investment Scheme shares and
Seed Enterprise Investment Scheme shares will also not be capped.

The most important reliefs affected by the new cap are:

• Qualifying loan interest

• Relief for trading losses against other income
• Property loss relief
• Share loss relief

94
Qualifying loan interest is the relief for interest on personal
borrowings used to invest funds in a qualifying company (or
partnership).

Individuals with trading losses can set them off against their other
income in the same tax year or the previous one. Additional relief
applies in the early years of a trade. (See the Taxcafe.co.uk guide,
How to Save Property Tax for further details.)

Property loss relief allows individuals to set off rental losses that
arise because of capital allowances against their other income for
the same tax year. (Again, see How to Save Property Tax for further
details.)

Share loss relief allows owners of some private companies to claim

income tax relief for losses on their shares.

Statutory Residence Test

Your residence status has a significant impact on the amount of

income tax and capital gains tax you have to pay. Up until now it
has been largely determined by a mixture of case law and HMRC
practice.

The Government is pressing ahead with its decision to introduce a

statutory residence test, which takes effect from 6th April 2013.

From now on your residence status will be determined by the

number of days you spend in the UK (strictly limited) and possibly
by your UK ties, for example if you have family living in the UK or
a home here.

Scottish Tax

• Land and buildings transaction tax and Scottish landfill tax

will apply in Scotland from April 2015.

• Scottish rate of income tax applies from April 2016.

95
Chapter 20

Business Tax Changes

£2,000 National Insurance Allowance

This was the big give-away to small businesses in the 2013 Budget.
Most business tax reductions in recent times (eg cuts in
corporation tax and increases in the annual investment allowance)
have only helped big businesses.

All businesses will receive an allowance of £2,000 per year to offset

against their national insurance bills. In other words, if your
business would normally pay £10,000 in employer’s national
insurance, it will now pay £8,000.

Employer’s national insurance is payable at the rate of 13.8% on

every pound the employee earns above £7,696.

The allowance will come into operation in April 2014 and will be
claimed as part of the normal payroll process.

The Annual Investment Allowance (AIA)

The December 2012 Autumn Statement included the

announcement of a temporary ten-fold increase in the AIA to a
maximum of £250,000 for expenditure incurred between 1st
January 2013 and 31st December 2014.

Great news, but the transitional rules applying to accounting

periods straddling 1st January 2013 and 1st January 2015 are
nothing less than a nightmare.

For accounting periods spanning 1st January 2013, the maximum

AIA is calculated on a pro rata basis. For example, a company with
an accounting year ending on 31st March 2013 will be entitled to a
maximum AIA for the whole year of:

275/365 x £25,000 £18,836

90/365 x £250,000 £61,644
Total £80,480

96
But an additional rule also applies to any expenditure before 1st
January 2013 – the maximum AIA that can be claimed on this
expenditure is £25,000.

Hence, for this company to make the most of the AIA this year, it
will need to incur qualifying expenditure of at least £55,480
between 1st January and 31st March 2013.

The same company’s next accounting period will be the year

ending 31st March 2014 and it will be eligible to claim an AIA of
up to £250,000.

However, the year after that, the year ending 31st March 2015, the
company will run into another set of transitional rules. This time,
the maximum AIA for the year as a whole will be:

275/365 x £250,000 £188,356

90/365 x £25,000 £6,164
Total £194,520

Again, there will be an additional rule, this time applying to

expenditure after 31st December 2014. In this company’s case, it
will be eligible to claim an AIA of just £6,164 on qualifying
expenditure between 1st January and 31st March 2015.

The maximum AIAs applying for some other popular accounting

periods are as follows:

Year ended: 5 April 30 June 30 Sep 31 Dec

2013
For the year as a whole £83,562 £136,575 £193,288 £250,000
Before 1/1/2013 £25,000 £25,000 £25,000 n/a
2014
For the year as a whole £250,000 £250,000 £250,000 £250,000
2015
For the year as a whole £191,438 £138,425 £81,712 £25,000
After 31/12/2014 £6,507 £12,397 £18,699 n/a

97
Double Trouble

Businesses with accounting periods straddling both 1st or 6th April

2012 and 1st January 2013 face even more complexity, as they will
be subject to two sets of transitional rules in the same period. For
example, a company with a twelve-month accounting period
ended 28th February 2013 will be entitled to a maximum AIA for
the year as a whole of:

31/365 x £100,000 £8,493

275/365 x £25,000 £18,836
59/365 x £250,000 £40,411
Total £67,740

Within this overall maximum for the year as a whole, the

company’s maximum claims in respect of expenditure incurred
during the various parts of its accounting period will be as follows:

1st to 31st March 2012: £31,370

(This is what the maximum claim for the year as a whole would
have been had it not been for the increase in the AIA on 1st
January 2013.)

1st April to 31st December 2012: £22,877

(This is what the maximum claim for the period from 1st April
2012 to 28th February 2013 would have been had it not been for
the increase in the AIA on 1st January 2013.)

1st January to 28th February 2013: £59,247

(£18,836 + £40,411 – based on the figures derived above.)

Timing Is Everything

Nonetheless, despite the complexities of the transitional rules,

there are tremendous opportunities for businesses to make
substantial tax savings by timing their expenditure carefully over
the next couple of years.

Example
Crocodile Investments Ltd has a portfolio of commercial rental property
and draws up accounts to 30th June each year. Every month, the
company incurs expenditure of £10,000 on integral features, plus a
further £7,500 on other items qualifying for capital allowances.

98
The entire £105,000 of expenditure incurred between 1st January and
30th June 2013 will qualify for a 100% deduction under the AIA, but
only £25,000 of the expenditure incurred between 1st July and 31st
December 2012 will qualify for the AIA. The company will get the best
result by allocating this £25,000 to its integral features expenditure,
leaving it to claim writing down allowances of 8% on the other £35,000
worth of integral features and 18% on the other qualifying items bought
in the second half of 2012.

All of the £210,000 of qualifying expenditure incurred during the year

ending 30th June 2014 will qualify for the AIA.

In the year ending 30th June 2015, the company can claim the AIA on
all of its expenditure between July and December 2014, but on only
£12,397 of the expenditure incurred between January and June 2015.

Over the three years to 30th June 2015, the company will therefore be
able to claim AIAs totalling £457,397 plus writing down allowances of
£39,843: total deductions of £497,240.

However, by timing its expenditure more carefully, the company could

achieve a much better result.

In March 2013, the directors of Crocodile Investments Ltd review the

total expenditure due to take place between April 2013 and June 2015.
This amounts to £472,500. They reschedule this expenditure so that it
will take place as follows:

April to June 2013 £59,075

Year to 30th June 2014 £250,000
July to December 2014 £126,028
January to June 2015 £37,397

All of the company’s expenditure between January 2013 and December

2014 will qualify for the AIA; the expenditure incurred in the second
half of 2012 will be treated as before; and £12,397 of the expenditure in
the first half of 2015 will also qualify for the AIA. All in all, over the
same three-year period, the company will now be able to claim AIAs of
£525,000 and writing down allowances of £32,434: total deductions of
£557,434 – £60,194 more than if the directors had not rescheduled the
expenditure.

Many thanks to Taxcafe editor, Carl Bayley, for this excellent

summary of the AIA changes.

99
VAT

The VAT registration threshold increases to £79,000 from 1st April

2013. The de-registration threshold increases to £77,000 from the
same date.

The place of supply rules for telecommunications, broadcasting

and e-services is to be changed to the consumer’s location from 1st
April 2015.

Disincorporation Relief

This new relief is for businesses that want to “disincorporate” –

change their legal form from a limited company to self employed.
It applies for a five-year period commencing 1st April 2013.

Capital gains arising on the transfer of qualifying assets with a

market value of up to £100,000 from a company to some or all of
its shareholders will be exempt from tax. Transferees must be
individuals who have held their shares for at least 12 months prior
to the transfer. The transfer can be to a partnership, but not to
members of an LLP (limited liability partnership).

The business must be transferred as a going concern. All business

assets except cash must be transferred.

Qualifying assets for the purpose of the relief are goodwill and
land and buildings. The relief only applies where the total market
value of the qualifying assets is no more than £100,000.

The relief only exempts the company from corporation tax on

capital gains. Other charges may arise on the transfer. In
particular, the recipient shareholders will still be subject to tax on
a dividend in specie if assets are transferred to them for any less
than market value.

100
Loans to Participators

Small company owners sometimes borrow money from their

companies instead of taking dividends.

If a small company lends money to a director/shareholder

(sometimes referred to as a participator) the company will have to
pay a 25% tax charge on the loan. This is known as the section
455 charge.

The 25% tax does not apply if the director/shareholder repays the
loan within nine months of the company’s financial year end.
This is the normal due date for the company’s corporation tax.
Furthermore, any section 455 tax that is paid can be reclaimed if
the loan is repaid to the company.

HMRC dislikes it when a loan is repaid before the 25% tax is

triggered, with a new loan taken out almost straight away (known
as ‘bed and breakfasting’). They also dislike it when loans are
repaid in order to get the section 455 tax refunded, with a new
loan taken out almost straight away.

The Government has decided to introduce a number of changes to

tackle this loan recycling:

• A new “30-day rule” denies relief from the section 455 tax
if an amount of more than £5,000 is repaid and another
loan is taken within 30 days.

• Even if the 30-day rule does not apply, the original tax
charge will still apply if there are outstanding amounts of
£15,000 or more and at the time of repayment there are
arrangements or there is an intention to redraw the
amount and an amount is actually redrawn.

The changes have effect from Budget day (20th March 2013). The
Government has also announced its intention to undertake a
wider review of the loans to participators regime.

101
Capital Allowances on Cars

100% Enhanced Capital Allowances

The 100% first-year allowance for new low-emission cars is to be

extended by a further three years, to 31st March 2018:

• The allowance will be available for cars rated up to 95g/km

bought before 31st March 2015.

• The threshold will be reduced to 75g/km from April 2015.

18%, 8% Writing Down Allowances

Other cars generally qualify for either an 18% or 8% writing down

allowance. Cars with lower CO2 emissions enjoy an 18% writing
down allowance, cars with higher CO2 emissions get just 8%.

With effect from April 2013, the CO2 threshold has been reduced
from 160 g/km to 130 g/km. In other words, cars with CO2
emissions under 130 g/km get 18%, cars over 130 g/km get 8%.

Car capital allowances will be reviewed again in the 2016 Budget.

General Anti-Abuse Rule

The ‘general anti-abuse rule’ (GAAR) will come into force from the
date the 2013 Finance Bill receives Royal Assent.

The new rule will apply to most taxes including income tax,
corporation tax, capital gains tax, inheritance tax and stamp duty
land tax. It will also apply to national insurance from a later date.

It will allow HMRC to counter artificial tax avoidance schemes if

the economic effect of transactions appears to be different to the
tax effect (e.g. if a tax loss arises that is larger than the economic
loss suffered by the taxpayer)

A scheme must be referred to an independent advisory panel

before HMRC can use the GAAR. The panel’s opinion is not
binding but will form part of the evidence at any subsequent
hearing.

102
 UK Tax Rates and Allowances: 2012/13 to 2014/15

Rates 2012/13 2013/14 2014/15

£ £ £
Income Tax
Personal allowance 8,105 9,440 10,000
Basic rate band 20% 34,370 32,010 31,865
Higher rate 40% 42,475 41,450 41,865

Personal allowance withdrawal

Effective rate/From 60% 100,000 100,000 100,000
To 116,210 118,880 120,000

Super tax rate 50% 45% 45%

Threshold 150,000 150,000 150,000

Starting rate band applying to interest and other savings income only
10% 2,710 2,790 n/a

National Insurance
Class 1 – Primary 12% 12% 12%
Class 4 9% 9% 9%
Primary threshold 7,605 7,755 n/a
Upper earnings limit 42,475 41,450 41,865
Additional Rate 2% 2% 2%
Class 1 – Secondary 13.8% 13.8% 13.8%
Secondary threshold 7,488 7,696 n/a

Class 2 – per week 2.65 2.70 n/a

Small earnings exception 5,595 5,725 n/a
Class 3 – per week 13.25 13.55 n/a

Pension Contributions
Annual allowance 50,000 50,000 40,000
Lifetime allowance 1.5m 1.5m 1.25m

Capital Gains Tax

Annual exemption 10,600 10,900 11,000
Entrepreneurs Relief:
Lifetime limit 10m 10m 10m
Tax rate 10% 10% 10%

Inheritance Tax
Nil Rate Band 325,000 325,000 325,000
Annual Exemption 3,000 3,000 3,000

103
Age-related Allowances, etc.
Age allowance: lower (1) 10,500 10,500 10,500
Age allowance: higher (2) 10,660 10,660 10,660
MCA: born before 6/4/1935 (3) 7,705 7,915 n/a
MCA minimum 2,960 3,040 n/a
Income limit 25,400 26,100 n/a
Blind Person’s Allowance 2,100 2,160 n/a

Notes
1. Available to individuals born between 6 April 1938 and 5 April
th th

1948
2. Available to individuals born before 6 April 1938
th

3. The Married Couples Allowance, ‘MCA’, is given at a rate of 10%

104