February update

In December we shared ways to mitigate inheritance tax, protect your family from financial hardship and the new Lasting Power of Attorney service and witnessing wills by video.

This month we are covering:

  1. Spring Budget
  2. Redundancy and pension planning
  3. Pension tax relief

Spring Budget and end of year tax planning

The Chancellor of the Exchequer, Rishi Sunak, announced in December last year that the government will publish the Budget on Wednesday 3 March 2021.

The Budget was meant to have taken place in November last year but, due to the pandemic, was delayed. With the Chancellor having to continually support both businesses and individuals to help cope with the financial impact of the pandemic will taxes be raised? Such as aligning capital gains tax rates with those for income tax. Or will he impose a one-off wealth tax? Or will he delay tax rises until the pandemic is well behind us?

As only time will tell it is important to put in place strategies to help minimise tax throughout the next tax year as well as considering tax planning for the current tax year.

Below are a few suggested planning considerations.

Income Tax

• Consider reducing your taxable income below £150,000 to avoid 45% tax. Pension contributions and gift aid can be used to reduce taxable income.

• The personal allowance is gradually withdrawn for individuals with taxable income above £100,000. So, if your income is above £100,000, consider making a pension contribution before 6 April 2021 to reduce your income to restore all, or part, of this year’s £12,500 personal allowance which could otherwise be lost.

• If you are married or in a civil partnership think about redistributing investment capital to potentially reduce the rate of tax suffered on income and gains. No capital gains tax or income tax liability will arise on transfers between married couples or civil partners living together or where the asset to be transferred is an investment bond.

Capital Gains Tax

• Maximise use of this year’s annual exemption (currently £12,300) as any unused amount cannot be carried forward to the next tax year. You could make one disposal before 6 April 2021, and another after 5 April 2021 in order to use this year and next year’s annual exemption. Of course, there may be some announcement from the Chancellor on capital gains tax in the Spring Budget, such as taxing capital gains at the same rates as income and reducing the annual exempt amount.

Inheritance Tax

• Consider using the annual exemption of £3,000 which every individual has each tax year. Any unused annual exemption can be carried forward for one year only. So, you may be able to gift £6,000 before 6 April 2021 using this year’s, and last year’s, annual exemptions.

• Do you have income that is surplus to your needs? If yes, you could consider establishing an arrangement to make regular gifts out of income using the normal expenditure out of income exemption.

Recent reports proposed simplifying inheritance tax and suggest that all existing lifetime gift exemptions are replaced by a single annual gift allowance so, if you can afford to make substantial gifts out of income you may want to consider putting this in place before any potential rule change occurs – in the hope that if a rule change does occur, existing arrangements will be protected.

Pensions

• The carry forward rules allow unused annual allowances to be carried forward for a maximum of three tax years. This means that 5 April 2021 is the last opportunity to use any unused allowance of up to £40,000 from 2017/18.

• In 2020/21, the threshold income level and the adjusted income level for the tapered annual allowance are £200,000 and £240,000 respectively and it is important to check whether this will impact you. If the tapered annual allowance impacts you, think about if you can use any carry forward or make additional pension contributions.

• Consider making a net pension contribution of up to £2,880 (£3,600 gross) each year for members of your family, including children and grandchildren, who do not have relevant UK earnings. The £720 basic rate tax relief added by the Government each year is a significant benefit and the earlier that pension contributions are started the more they benefit from compounded tax-free returns.

Redundancy and Pension Planning

If you are made redundant on or after 6 April 2020, your weekly pay is capped at £538 and the maximum statutory redundancy pay you can receive is £16,140. Redundancy pay (including any severance pay) under £30,000 is not taxable and this does pose some opportunities for pension planning.

Before redundancy and/or during notice period

• Are you contributing into your employer sponsored scheme and does that scheme match your contributions?

• Are you a member of a defined benefit scheme and over the age of 55? It may be worth exploring the discount factors that might be applied if you took your pension before the scheme’s normal retirement date.

• As we are approaching the end of the tax year just be careful if a redundancy payment is spread over a tax year end. The key issue here is concerning anti-avoidance legislation, especially if the action would be to reduce the impact of tapered annual allowance.

Pension planning post redundancy

Even where you have enough emergency funds set aside, the redundancy payment could be a windfall as using an element of the redundancy payment to top up your pension is an excellent way to increase your pot.

But where you may need to draw on your pension should you consider utilising the tax-free cash? The benefit of this is that these payments are not subject to income tax and can be phased to meet your income requirements. But the tax-free payments are subject to the lower of 25% of your pension pot or 25% of your lifetime allowance. If you require further income in addition to the tax-free cash this will impact future opportunities to make pension contributions if you are looking for continued employment.

Pension Tax Relief

As far back as 2015 changes in pension tax relief have been mooted and towards the end of last year rumours of moving to a flat rate pension tax relief scheme resurfaced. If that happens in the Spring budget – and it is a huge if – what will the changes mean for individuals?

So, what is pension tax relief? – When you pay money into a pension, the amount is immediately boosted by tax relief. For instance, if you are a basic-rate taxpayer and pay £80 into your pension, the government adds £20 to make it up to £100. This is because your gross income was originally taxed at 20 per cent. Money paid into a pension is free of tax, so that 20 per cent is paid back on each contribution. Higher-rate taxpayers (who pay 40 per cent tax) can currently claim back an additional 20 per cent via their self-assessment, while additional rate taxpayers can claim an additional 25 per cent. It is this extra tax relief that may be up for review, either in the upcoming Budget or at some later date.

Over the years there have been various suggestions for the single flat rate but with the government tackling the cost and challenges of Brexit speculation is that the rate of pension tax relief may drop to 20 per cent for everyone.

With the difference between private sector and work-based pensions a change to a flat pension tax relief would be complex. Nevertheless, the writing may be on the wall for higher-rate tax relief, so those in a position to benefit from it should use it while they still can, by maximising pension contributions.