Tax-Year-End planning for individuals

TAX YEAR END PLANNING – CONTENT PLAN

1. Introduction
2. Income tax

• Maximising the use of all allowances, reliefs and exemptions
• The personal savings allowance (PSA)
• The dividend allowance
• The savings starting rate band 

3. Capital gains tax

• Using the CGT annual exemption
• Independent taxation planning
• Pension contributions to reduce the tax on a capital gain
• Loss relief strategies
• Carried Forward Losses
• Same Year Losses
• CGT deferral

4. Inheritance tax

• Nil rate band
• IHT yearly exemptions

5. Using tax-efficient investments

• ISAs
• Junior ISAs (JISAs)
• Growth-oriented collective investments
• Single premium investment bonds
• Enterprise Investment Scheme (EIS)
• Venture Capital Trust (VCT)

6. Pensions

7. End-of-year tax planning reminders

8. 12 quick new-tax-year tips

 

INTRODUCTION

The run up to the end of the tax year is a good time to consider tax planning to maximise the use of an individual’s allowances, reliefs and exemptions for the current tax year.  Some of these will be lost if not used before the end of the tax year.  For those who currently pay tax at the higher rate and/or additional rate of income tax, tax planning at the end of this year is valuable as a means of minimising the tax payable and maximising net income, capital gains and wealth. 

As well as last-minute tax planning for 2019/20, now is also a good time to put in place strategies to minimise tax throughout 2020/21. 

In this article we look at the main planning opportunities available to UK resident individuals for tax year 2019/20 and strategies which could be put in place to help minimise tax in 2020/21.

While tax planning is an important part of financial planning, it is not the only part.  It is essential, therefore, that any tax planning strategy that is being considered also makes commercial sense.

In this article all references to spouses include civil partners and all references to married couples include registered civil partners.  All the figures quoted are UK excluding Scotland.

INCOME TAX

Tax saving opportunities are generally centred around maximising the use of allowances, reliefs and exemptions, and using tax-efficient investments.

Maximising the use of all allowances, reliefs and exemptions

Each individual, regardless of age, is entitled to a personal allowance, savings starting rate band, basic rate band, personal savings allowance (PSA) and dividend allowance.  It goes without saying that maximum advantage should be taken of each of these opportunities.

In the case of a couple there is more scope to take advantage of tax breaks. For all couples, as a bare minimum, both personal allowances, starting/basic rate tax bands and the dividend and personal savings allowances should be used to the full where possible.  This is particularly beneficial where income can be legitimately shifted from a higher or additional rate taxpaying spouse to a non or basic rate taxpaying spouse.  For those with cash and investments this will usually be facilitated by an unconditional transfer of income-producing assets from the higher taxpaying spouse to the other. 

Any such transfers would usually be capital gains tax and inheritance tax neutral as transfers between spouses living together are treated as transfers on a no gain/no loss basis for capital gains tax purposes and transfers between UK domiciled spouses (living together or not) are exempt from inheritance tax without limit.

For 2019/20 spouses are entitled to transfer up to 10% of their personal allowance (£1,250) to their spouse provided that after the transfer neither spouse pays tax at above the basic rate.   Before 29 November 2017 no transfer of the personal allowance was permitted on behalf of a deceased spouse, or from a surviving spouse to a deceased spouse.  However, from 29 November 2017 a spouse of a deceased spouse can claim up to 10% of the deceased’s personal allowance, with claims being backdated by up to 4 years.

The personal savings allowance (PSA) 

Broadly speaking, if a person is a

• basic rate taxpayer, the first £1,000 of savings income is untaxed;
• higher rate taxpayer, the first £500 of savings income is untaxed;
• additional rate taxpayer, does not receive any personal savings allowance.

‘Savings income’ in this instance is primarily interest, but also includes chargeable event gains made on life assurance single premium bonds. Although called an allowance, in reality the PSA is a nil rate tax band, so it is not quite as generous as it seems.

If spouses receive substantial interest income, it is worth checking that they both maximise the benefit of the PSA. However, at current miserably low interest rates, they might also wish to consider whether they could earn a higher income by choosing non-deposit investments.

The PSA is available in addition to an individual’s personal allowance and £5,000 savings starting rate band and so, in theory, for a basic rate taxpaying individual with only savings income, they can receive in 2019/20 up to £18,500 tax free.

The dividend allowance

The first £2,000 of dividends received in a tax year are not subject to any tax, regardless of the investor’s marginal income tax rate. Once the £2,000 allowance is exceeded, there is a tax charge.  Like the PSA the dividend allowance is really a nil rate tax band so up to £2,000 of dividends do not disappear from tax calculations even though they are taxed at 0%.  Again, spouses should try to ensure they are each in a position to take maximum advantage of this allowance. 

The savings starting rate band

The starting rate band for savings income is £5,000 and the rate of tax is 0% for 2019/20.  This is available in addition to the dividend allowance and personal savings allowance. The truth is that most people are not able to take advantage of the starting rate band because a person’s earnings and/or pension income exceeds £17,500 in 2019/20. However, if a person does qualify, they will need to ensure they have the right type of investment income to pay 0% tax.

CAPITAL GAINS TAX

Five very effective forms of capital gains tax (CGT) planning, for this tax year and the next, are:

• use of the CGT annual exemption (which cannot be carried forward and so if not used will be lost);
• use of independent taxation planning strategies by married couples;
• for those approaching or paying higher rate income tax, action so as to reduce the tax rate that applies to a gain. This can be achieved by the payment of a pension contribution;
• use of loss relief strategies; and
• CGT deferral

Using the CGT annual exemption

Taxable capital gains are treated as the most highly taxed part of the investor’s taxable income to determine the rate of CGT they pay.  To the extent that gains fall within the investor’s basic rate tax band they are taxed at 10% (18% for residential property and carried interest gains).  To the extent that gains fall within the higher/additional rate band, they are taxed at 20% (28% for residential property and carried interest gains).

The annual exemption is deducted before determining taxable capital gains.  For individuals the annual exempt amount is £12,000 for 2019/20 and £6,000 for most trustees.  For higher and additional rate taxpayers, who will otherwise generally pay CGT at 20%, use of the annual exemption in 2019/20 can save up to £2,400 in tax. For a basic rate taxpayer the tax saving is worth up to £1,200.

As far as possible it is important to use the annual exemption each tax year because, if unused, it cannot be carried forward.  If the annual exemption is not systematically used an individual is more likely to reach a point where some of their gains are subject to the tax.

Unfortunately, in using the CGT annual exemption a gain cannot simply be crystallised by selling and then repurchasing an investment – the so-called bed-and-breakfast planning - as the disposer must not personally reacquire the same investment within 30 days of disposal. However, there are other ways of achieving similar results:

- Bed-and-ISA.  An investment can be sold, eg. shares in an OEIC, and bought back immediately within an ISA. For 2019/20 the maximum ISA investment is £20,000. 

- Bed-and-SIPP. Here the cash realised on sale of the investment is used to make a contribution to a self-invested personal pension (SIPP) which then reinvests in the original investment. This approach has the added benefit of income tax relief on the contribution and may also offer a higher reinvestment ceiling than an ISA, depending on a person’s earned income and other pension contributions.

- Bed-and-spouse. One spouse can sell an investment and the other spouse can buy the same investment without falling foul of the rules against bed-and-breakfasting. However, the sale of the investment cannot be to the other spouse – the two transactions must be separate.

- Bed-and-something similar. Many funds have similar investment objectives or, in the case of tracker funds, identical objectives. So, for example, if somebody sells the ABC UK Tracker fund and buys the XYZ UK Index fund, the nature of the investment and the underlying shareholdings may not change at all, but because the fund providers are different the transactions will not be caught by the rules against bed-and-breakfasting. 

Independent taxation planning

The value of the annual CGT exemption depends on whether the individual is a higher/additional rate taxpayer or not.  At the lower rate of CGT (20% for a higher/additional rate taxpayer), the maximum value of the annual CGT exemption is currently £2,400 (£3,360 at the 28% upper rate).

It therefore makes even more tax sense for an individual, who is a higher/additional rate taxpayer, to transfer assets into their spouse’s name to make use of that spouse’s annual exemption on subsequent disposal. This will mean that, between them, the spouses can realise capital gains of £24,000 in 2019/20 with no CGT.  This can be achieved by an outright and unconditional lifetime transfer from one spouse to the other.  This should not give rise to any inheritance tax consequences or CGT implications (provided the spouses are living together).

Indeed, it may even be worthwhile transferring an asset showing a gain of more than £12,000 if the asset is to be sold as the result would be for the surplus capital gain to be taxed at 10% rather than 20%.

In transactions which involve the transfer of an asset showing a loss to a spouse who owns other assets showing a gain, care should be taken over the CGT anti-avoidance rules that apply (if any money/assets return to the original owner of the asset showing the loss).

Pension contributions to reduce the tax on a capital gain

Some people who are realising a taxable capital gain may have an amount of taxable income equal to around the basic rate limit. This means that a significant part of any taxable capital gains is likely to suffer CGT at a rate of 20%. By taking action to increase the basic rate limit, it is possible for such a person to save CGT.  One method of achieving this is to pay a contribution to a registered pension scheme whereby the basic rate tax band is increased by the gross pension contribution.

Loss relief strategies

In calculating taxable capital gains for a tax year, the taxpayer must first deduct losses of that same tax year, then deduct the CGT annual exempt amount which will leave the gains for the tax year that are subject to tax.  Loss relief can therefore be important, particularly for individuals who are higher/additional rate taxpayers and so pay CGT at 20% and/or 28%.

In this respect the rules for losses depend on whether the individual has a carried forward loss (arising from excess losses in previous tax years) or a loss from the same tax year as that in which the gain arises.

(i) Carried forward losses

Where the loss is a carried forward loss it is only necessary to reduce the taxable gain by an amount that leaves the CGT annual exemption intact which means that any amount unused can be carried forward for future use.

(ii) Same-year losses

Losses that arise in the same tax year as capital gains are fully netted off against those capital gains to bring them down to zero.  Excess losses will then become carried forward losses.  In circumstances where the individual is realising losses in the same tax year as gains, they therefore need to be careful not to cause a part or all of their annual CGT exemption to be lost in the tax year in question.

CGT deferral

If a person is contemplating making a disposal in the near future which will trigger a capital gain in excess of £12,000 (2019/20) it may be worthwhile, if possible, spreading the disposal across two tax years to enable use of two annual exemptions to be made. Alternatively, if the disposal cannot be spread or the gain is very substantial, the disposal could be deferred until after 5 April 2020 to defer the payment of CGT until 31 January 2022.

INHERITANCE TAX

(i) Nil rate band

The nil rate band reached its current level of £325,000 in April 2009. It has been frozen since then and the freeze will continue until at least April 2021.

A frozen nil rate band drags more estates into the IHT net and if a person is already caught this adds to the amount of tax that will ultimately be levied.

 (ii) IHT yearly exemptions

The nil rate band freeze means that use of the yearly IHT exemptions is all the more important:

• The £3,000 annual exemption. Any unused part of this exemption can be carried forward one tax year, but it must then be used after the £3,000 exemption for that year. So, for example, if an individual made a gift of £1,000 covered by the annual exemption in 2018/19, they could make gifts totalling £5,000 covered by the annual exemption in 2019/20 by 5 April 2020.

• The £250 small gifts exemption. A person can make as many outright gifts of up to £250 per individual per tax year as they wish free of IHT, provided that the recipient does not also receive any part of the donor’s £3,000 annual exempt amount.

• The normal expenditure exemption. Any gift is exempt from IHT if:

1. it forms part of the donor’s normal expenditure; and
2. taking one year with another it is made out of income; and
3. it leaves the donor with sufficient income to maintain their usual standard of living.

 

• Gifting by cheque. If an annual exemption gift is being made by way of a cheque, remember that legally the gift is only made once the cheque is cleared. Friday April 3 is the final banking day of 2020/21, so a cheque given after Sunday March 29 may not clear in time.

USING TAX-EFFICIENT INVESTMENTS

ISAs

The annual subscription limit is £20,000 for 2019/20.   This means a couple could, between them, invest £40,000.  A child aged 16 or 17 can invest £20,000 in a cash ISA in 2019/20.

No tax relief is available on a subscription to an ISA but income and capital gains are free of tax.  For those whose dividend income could exceed £2,000 in 2019/20, tax freedom on dividend income within the ISA will save tax at 7.5%, 32.5% and/or 38.1% as appropriate. 

The attractions of an ISA are further enhanced by the continuing freedom from tax on income and gains arising during the administration period for the estate of an ISA investor who dies on or after 6 April 2018.  If relevant, consideration should be given to making an additional permitted subscription to an inheritable ISA.

Junior ISAs (JISAs)

Broadly speaking, JISAs are available to any UK resident child, under age 18, who does not have a Child Trust Fund (CTF) account.  Any individual may contribute into a JISA on behalf of a child and the maximum subscription from all sources is £4,368 in 2019/20.  Such children aged 16 or 17 can also invest £20,000 in a cash ISA – see (a) above.  The tax benefits are the same as for ISAs.

Children with a CTF account do not qualify for a JISA but, given its tax-free status, consideration should still be given to making further subscriptions to that CTF account or transferring it to a JISA.  The maximum subscription to a CTF account is also £4,368 in 2019/20.

Growth-oriented collective investments

Given the relatively high rates of income tax compared to the current rates of capital gains tax (CGT) it can make sense, from a tax perspective, to invest for capital growth as opposed to income.

Although income from collectives is taxable – even if accumulated - if this income can be limited so can any tax charge on the investment.  Indeed, with emphasis on investing for capital growth, not only will there be no tax on capital gains accrued or realised by the fund managers, it should also be possible to make use of the investor’s annual CGT exemption on later encashment (or both annual CGT exemptions for a couple). 

Single premium investment bonds

Continuing pressure on the Government to maintain high rates of tax means that deferment represents an important tax planning strategy and single premium investment bonds can deliver this valuable tax deferment for a higher/additional rate taxpayer.  This is because no taxable income arises for the investor during the “accumulation period”. 

In particular, it should be borne in mind that any UK dividend income accumulates without corporation tax within a UK life fund.  An investor in a UK bond will receive a basic rate tax credit for deemed taxation in the fund meaning that, on eventual encashment, a tax charge will only arise if the investor (after top-slicing relief) is then a higher rate or additional rate taxpayer. 

More tax efficiency at fund level can be achieved via an offshore bond because there is no internal tax charge on investment growth and so it is possible to achieve gross roll-up. However, there is no basic rate tax credit for the investor on encashment. 

Enterprise Investment Scheme (EIS)

For tax year 2019/20 an investment of up to £2 million (provided that any amount above £1 million is invested in knowledge-intensive companies) can be made to secure income tax relief at 30%, with tax relief being restricted to the amount of income tax otherwise payable by the investor.  An investment can be carried back to the immediately preceding tax year to secure income tax relief in that tax year.  Unlimited CGT deferral relief is available provided some of the EIS investment potentially qualifies for income tax relief.

Venture Capital Trust (VCT)

The VCT offers income tax relief for tax year 2019/20 at 30% for an investment of up to £200,000 in new shares, with relief restricted to the amount of tax otherwise payable by the investor.  There is no ability to defer CGT, as with an EIS investment, but dividends and capital gains generated on amounts invested within the annual subscription limit are tax free. 

PENSIONS

It would be advisable for any pension contributions to be made before Wednesday 11 March (Budget day), cash permitting.

The carry forward rules currently allow unused annual allowances to be carried forward for a maximum of three tax years, but that principle - and the rate of tax relief - could change.

One important point to check is whether the client has any unused annual allowance from 2016/17, when the maximum annual allowance (before tapering) was £40,000. They have until the end of 2019/20 to use up this past allowance, or it is lost forever. However, it can only be utilised once their full annual allowance for the current tax year is exhausted. So, for example, if they are not affected by the taper rules and have £10,000 annual allowance unused from 2016/17, to mop it up completely would require a total contribution of £50,000 in 2019/20 £40,000 for the current tax year and £10,000 carried back three years.

Unused relief can also be used from later years, but once the current year ‘entrance fee’ is paid, the excess contribution is offset in chronological order, starting with 2016/17.

For high earners now is the time to ensure that if they are subject to the tapered annual allowance is there anything they can do about it. If the client has sufficient carry forward and their threshold income is only just above £110,000, making additional pension contributions personally could reinstate their whole annual allowance. This means more pension savings and the possibility of avoiding a tax charge.

Making extra pension contributions not only increases pension provision but for those who may be subject to a reduced personal income tax allowance a personal pension contribution could claw back some of this allowance giving an effective tax saving of around 60%.

In addition to helping high earners regain their personal income tax allowance, pension contributions can also help families claw back their child benefit, which is progressively taxed if one parent or partner in the household has income of more than £50,000. Benefit is totally lost when income of one parent or partner reaches £60,000.

Individuals should consider making a net pension contribution of up to £2,880 (£3,600 gross) each year for members of their 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.

END-OF YEAR PLANNING REMINDERS

As indicated in the introduction, while some "last minute" planning opportunities exist the majority of planning strategies have greatest effect if implemented before a tax year begins. With this in mind, the following checklist may be more likely to inspire action to reduce tax for 2020/21.

	PLANNING POINTS
Income tax	Reduce taxable income below £150,000 to avoid 45% tax.  Pension contributions are one of the few ways to reduce taxable income.   If income is marginally above £125,000 (2019/20) then pension contributions can reduce that income to below £125,000 to restore all or part of a personal allowance which would otherwise be lost.   For married couples/civil partners ensure each of them uses their personal allowance where possible.   Redistribute investment capital between spouses/civil partners to potentially reduce the rate of tax suffered on income and gains.   Reinvest in tax free investments, such as ISAs, to replace taxable income and gains with tax free income and gains.
Capital gains tax	Maximise use of this tax year’s annual exemption (currently £12,000). Any amount unused cannot be carried forward – “use it or lose it”. Assets can be transferred tax efficiently on a no gain/no loss basis between spouses/civil partners to facilitate this.   To defer the payment of tax for a year, make a disposal after 5 April 2020.   To use two annual exemptions in quick succession, make a disposal before 6 April 2020, and one after 5 April 2020.
Inheritance tax	Everybody has an annual exemption of £3,000 each year. Any unused annual exemption can be carried forward for one year only. So make use of any available annual exemption carried forward from last year before 6 April 2020.    The annual £250 per donee exemption cannot be carried forward.
Savings and investments   (i)                 ISAs and JISAs             (ii)              EISs/VCTs	Annual subscriptions (£20,000 and £4,368 respectively) should be maximised before 6 April 2020 as any unused subscription amount cannot be carried forward.   For subscriptions to be relieved in tax year 2019/20 they must be made before 6 April 2020.   To carry back an EIS subscription for tax relief in 2018/19 it must be paid before 6 April 2020.
Pensions	The carry forward rules allow unused annual allowances to be carried forward for a maximum of three tax years. Thus 5 April is the last opportunity to use any unused allowance of up to £40,000 from tax year 2016/17.   For high earners now is the time to ensure that if they are subject to the tapered annual allowance is there anything they can do about it. If the client has sufficient carry forward allowance and their threshold income is only just above £110,000, making additional pension contributions could reinstate the annual allowance. This means more pension savings and the possibility of avoiding a tax charge.   Making extra pension contributions not only increases pension provision but for those who may be subject to a reduced personal allowance a personal pension contribution could claw back some of this allowance giving an effective tax saving of around 60%.   In addition to helping high earners regain their personal allowance, pension contributions can also help families get back their child benefit, which is progressively cut back if one parent or partner in the household has income of more than £50,000.  Benefit is totally lost when income reaches £60,000.   Individuals should consider making a net pension contribution of up to £2,880 (£3,600 gross) each year for members of their 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.

Notes:

• Allowances and reliefs are generally available for each member of a family.
• Transfers of assets between spouses/civil partners are exempt from inheritance tax, also capital gains tax if they are living together.

12 QUICK NEW-TAX-YEAR TIPS

1.  Don’t waste the personal allowance for 2020/21.
2.  Don’t forget the personal savings allowance and savings starting rate band, reducing tax on savings income.
3.  Maximise the use of the dividend allowance.
4.  Don’t ignore National Insurance contributions – they are really a tax at up to 25.8% (for 2019/20).
5.  Think marginal tax rates – the system now creates 60% (and higher) marginal rates.
6.  ISAs should normally be the first port of call for investments, and then deposits.
7.  Even if a person is eligible for a Lifetime ISA (LISA), they might still find a pension is a better choice.
8.  Tax on capital gains is usually lower and paid later than tax on investment income.
9.  Trusts can save inheritance tax, but suffer the highest rates of capital gains tax and income tax.
10.  File a tax return on time to avoid penalties and the taxman’s attention.
11.  Be aware of the changes to the tax treatment of company cars due in April 2020.
12.  Don’t assume HMRC won’t know: automatic information exchange is now widespread.