UPDATE from 21 October 2022 to 3 November 2022

TAXATION AND TRUSTS 

Incorporation and the revived 25 percent corporation tax rate

(AF2, JO3) 

The return/continuation of the 25% corporation tax rate makes incorporation a less attractive option. 

For the above calculations it is assumed that: 

• Corporation tax from April 2023 is: 

• 19% for companies with profits up to £50,000;
• 19% on the first £50,000 and 26.5% on the next £200,000 of profits, for companies with profits between £50,000 and £250,000; and
• 25% for companies with profits of £250,000 or more. 

• Income tax rates (outside Scotland) in 2023/24 are 20%, 40% and 45%, with corresponding dividend tax rates of 8.75%, 33.75% and 39.35% respectively. 

• The NIC rate for employers is 13.8% on earnings above £10,036 (assuming the secondary threshold rises by about 10% in 2023/24). 

• The NIC rate for director employees is 12.0% on earnings between £12,570 and £50,270 and 2% on earnings above that level. 

• The NIC rate for the self-employed is 9% on profits between £12,570 and £50,270 and 2% on profits above that level. In addition, there are Class 2 NICs, also assumed to rise by about 10% to £3.45 a week. 

• The director draws a salary from gross profits equal to the primary NIC threshold (taken as £12,570 in 2023/24), thereby incurring an employer NIC liability of around £350 on the above assumptions. This level of salary is generally more tax-efficient than keeping pay to the secondary threshold and avoiding all NICs. 

• Beyond the salary and small NICs liability, the balance of profits is taxed at the appropriate corporation tax rate(s) and then paid in full as a dividend. 

• The dividend allowance is used elsewhere. 

• The Employment Allowance (EA) is used against other employee earnings, or is otherwise unavailable.

 

The mathematics brings out the following points: 

• From about £15,000 to £88,000 of gross profits, there is an advantage from incorporation. The peak advantage is around £60,000 of profits, where the saving is £2,460, primarily because of the much-reduced exposure to higher rate tax that the mix of dividends and pay produces at this level. Remember, for the self-employed, gross profits and taxable income are the same. The following applies in the higher rate income tax band when corporation tax rate is at the marginal (26.5%) on taxable profits above £50,000 and explains the falling benefit past £60,000:

 

	Self-employed £	Dividend £
Gross marginal profit	1,000	1,000
Marginal corporation tax @ 26.5%	N/A	(265)
Dividend payable	N/A	735
NIC @ 2%	(20)	N/A
	980	N/A
Marginal income tax @ 40%/33.75%	(400)	(248.06)
Marginal net income	580	486.94

 

• From £88,000 to about £110,500 incorporation shows a disadvantage because the combination of the higher rate of corporation tax and personal tax rate on dividends overhauls the NIC savings compared to self-employment (please see the table above). 

• Incorporation savings then re-emerge from about £110,500 to £132,000. This blip occurs because the combination of dividend plus salary produces a lower gross personal income, preserving the personal allowance for longer and thus sidestepping the 60% marginal income tax rate. With no grossing up of dividends, it requires £87,430 of dividends plus £12,570 of salary before taper bites – equivalent to about £127,000 of gross profit. 

• Beyond £132,000 of gross profits, the combination of the higher rate of corporation tax and personal tax rate on dividends reasserts itself, making incorporation less attractive. In the additional rate band, a similar gap in favour of salary over dividends occurs when the 26.5% marginal rate applies:

 

	Self-employed £	Dividend £
Gross marginal profit	1,000	1,000
Marginal corporation tax @ 26.5%	N/A	(265)
Dividend payable	N/A	735
NIC @ 2%	(20)	N/A
Salary	980	N/A
Marginal income tax @ 45%/39.35%	(450)	(289.22)
Marginal net income	530	445.78

Finally, once the 25% overall rate of corporation tax is reached at £250,000 of taxable profits, this is the picture:

	Self-employed £	Dividend £
Gross marginal profit	1,000	1,000
Marginal corporation tax @ 25.0%	N/A	(250)
Dividend payable	N/A	750
NIC @ 2%	(20)	N/A
Salary	980	N/A
Marginal income tax @ 45%/39.35%	(450)	(295.13)
Marginal net income	530	454.87

Comment

Do not forget this exercise is a largely academic one which looks only at the tax and NIC numbers. There will be many other factors (and costs) in the incorporation decision, e.g. the impact of the High Income Child Benefit Charge, the treatment of pension contributions and the increasing corporate governance requirements.

Basis period reform - a reminder

(AF2, JO3) 

This major overhaul of business taxation will impact all self-employed businesses – including solicitors, accountants, doctors and dentists trading as partnerships. Working out relevant earnings for pension contributions is likely to become trickier for these clients in particular. 

HMRC has published a reminder that the rules HMRC uses to work out taxable profits for income tax in a self-assessment return are changing for many businesses. 

From April 2024 onwards, sole traders and partners will be taxed on profits generated in that tax year, that is, from April to March. This will be the case regardless of a business’s accounting date. 

Only taxpayers with an accounting date other than 31 March or 5 April are affected by this reform. 

The year beginning in April 2023 is a ‘transitional year’ in which all affected businesses will move to the new way of calculating taxable profits for the tax year. They will need to declare the total profits from the end of the last accounting date in 2022/23 up to 5 April 2024. This means that profits generated over a longer period will be taxable in the transition year. 

As an example, if your client’s accounting date is 31 December, they must declare profits from 1 January 2023 up to 5 April 2024 in their tax return for the financial year 2023/24, i.e. covering 15 months rather than 12 months.

This return is due on or before 31 January 2025. By default, these additional ‘transition’ profits can be spread over five years. 

This abolition of basis periods means that any double taxation from the early months of trading will be available to be used. Further instructions on how to claim this ‘overlap relief’, and further guidance on the new rules in general, will be published soon.

How it works now 

For self-employed individuals, the general rule is that income tax is charged on the profits of the accounting year ending in the tax year. Accounts do not have to be made up for the tax year itself, because businesses are free to choose their annual accounting year end date. Although it’s possible to have a period of account that runs for less, or more, than 12 months and to change the year end date if required, it is common for it to run for 12 months, e.g. 1 April to 31 March, or 1 January to 31 December. Apart from special rules for the opening years and when the accounting date is changed, once the amount of profit is known, it’s assessed for tax in the tax year in which the accounting period ends.  

So, for example, profits for an accounting period that runs from 1 April 2021 to 31 March 2022 are taxed as income in the tax year 2021/22. And profits for an accounting period that runs from 1 May 2021 to 30 April 2022 will be taxed as income in the tax year 2022/23. 

Choosing an accounting date early in the tax year (e.g. 30 April) gives more time for planning

the funding of tax payments. It also means that tax is being paid each year on profits that were largely earned in the previous year, giving an obvious cash flow advantage if profits are rising. 

Whilst choosing an accounting date late in the tax year (e.g. 31 March or 5 April) can cause difficulties in the funding of tax payments if profits are rising, many self-employed people nevertheless find it simpler to have an accounting year end that is in line with the tax year (HMRC effectively treats 31 March and 5 April as the same), particularly if their profits are relatively small and they aren’t using an accountant or tax adviser. 

Large self-employed business, such as accountancy or solicitor partnerships, however, often choose a 30 April accounting year end. 

And this can be particularly useful if considering personal pension contributions, as the amount of taxable profit is the relevant UK earnings figure to support pension contributions for the tax year. So, to calculate the maximum pension contributions to be paid in the 2022/23 tax year, the trader, or their adviser, would need to know the amount of taxable profit for the 2022/23 tax year. 

The relevant UK earnings figure to support pension contributions paid in the 2022/23 tax year (i.e. between 6 April 2022 and 5 April 2023) are based on taxable profits for the period 1 May 2021 to 30 April 2022, allowing a reasonably long period of time to accurately work out relevant UK earnings and tapered annual allowance thresholds ahead of making any pension contributions for the 2022/23 tax year. 

Conversely, for those who have chosen a 31 March year end, it is virtually impossible to accurately calculate relevant UK earnings, or total income for the purposes of checking if the individual will exceed the tapered annual allowance limits, before making a pension contribution for the tax year. Profits for an accounting period that runs from 1 April 2022 to 31 March 2023 are taxed as income in the tax year 2022/23. So, it is necessary to make an estimate of taxable profits received in the 2022/23 tax year. This probably, therefore, leads to a number of these individuals erring on the side of caution and not maximising the pensions tax relief potentially available to them each tax year. 

The future 

The changes will mainly affect businesses that do not draw up annual accounts to 31 March or 5 April, and those that are in the early years of trade. 

This proposal will move everyone to a tax year basis with effect from the 2024/25 tax year, so that a business’s profit or loss for a tax year will be the profit or loss arising in the tax year itself, regardless of its accounting date.

Businesses that don’t have an accounting period end which matches the tax year (31 March or 5 April) will be required to time-apportion their profits into the appropriate tax years. 

For businesses with an accounting period that ends early in the tax year, e.g. on 30 April, this will impact on working out income figures for pension contributions purposes. 

For example, the relevant UK earnings figure to support pension contributions paid in the 2024/25 tax year (i.e. between 6 April 2024 and 5 April 2025) will have to be based on one month (1/12th) of the taxable profits for the accounting period 1 May 2023 to 30 April 2024, plus 11 months (11/12ths) of the taxable profits for the accounting period 1 May 2024 to 30 April 2025, making it virtually impossible to accurately work out relevant UK earnings, or whether the clients are likely to be impacted by the tapered annual allowance thresholds, ahead of making any pension contributions for the 2024/25 tax year. 

This will, probably, therefore, lead to a number of these individuals erring on the side of caution and not maximising the pensions tax relief potentially available to them each tax year. 

(Working out figures in the 2023/24 transitional year will likely be even trickier.) 

Of course, the introduction of Making Tax Digital (MTD), from their next accounting period starting on or after 6 April 2024, for self-employed businesses and landlords with annual business or property income above £10,000, will help somewhat in future tax years. Businesses will need to use software to keep digital records and send quarterly and end of year updates to HMRC, so your clients should at least have an up to date estimate of their profit levels to help with estimating relevant earnings, etc. 

Latest HMRC trust statistics

(AF1, JO2, RO3)

HMRC’s latest trust statistics show the total number of trusts and estates that submitted self-assessment returns fell by 6% in the tax year ending 5 April 2022 compared to the previous year. This continues the long-term downward trend across trusts paying tax at the special trust rate and interest in possession trusts.

 There were 165,000 trusts and estates submitting self-assessment returns in the tax year ending 5 April 2016, which has fallen to 141,500 in the tax year ending 5 April 2021. This appears to be a drop of approximately 14% over the past five years. 

The figures also show: 

• The Trust Registration Service had 198,000 trusts and estates registered up to 31 March 2022. Around one-fifth of these trusts and estates were registered in the period between 1 April 2021 and 31 March 2022, when there were 38,000 new registrations. 

• The total income and chargeable gains of all trusts and estates was £6,510 million in the tax year ending 5 April 2021, which increased by around 7% from the previous tax year. 

• The total income tax and capital gains tax payable on trusts and estates in the tax year ending 5 April 2021 was £1.455 million, increasing by around 5% from the previous tax year.

INVESTMENT PLANNING 

NS&I raises rates again

(AF4, FA7, LP2, RO2) 

National Savings & Investments (NS&I) last announced an interest rate increase on most of its variable rate investments in late July at a time when the Bank Rate was 1.25%. Two 0.5% rate increases later and with a potential 0.75% increase likely on 3 November, NS&I has announced a new round of rate increases, effective from 25 October:

 

Product	Current rate	Rate from 25/10/22
Direct Saver	1.20 % gross/AER	1.80% gross/AER
Income Bonds	1.20% gross/1.21% AER	1.80% gross/1.81% AER
Direct ISA	0.90% gross/AER	1.75% gross/AER
Junior ISA	2.20% gross/AER	2.70% gross/AER
Investment Account	0.01% gross/AER	0.40% gross/AER

 Reinvestment rates on fixed rate products no longer on sale are rising more sharply. For example, the one-year guaranteed growth bond rate moves up from 1.85% to 3.60%. No changes are being made to Premium Bonds, with a tax-free prize fund rate now at 2.20%. 

Comment

As usual, NS&I’s moves leave their products well behind the market, where the top rates on instant access money are around 2.8%.  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

PENSIONS

 

DWP publishes response to Pensions Dashboard consultation and draft guidance
(AF3, FA2, JO5, RO4)

 

The DWP has published the Government response to the Pensions Dashboards: further consultation  which considered two issues:

 

• Dashboards availability – the DWP had proposed that 90 days’ notice be given of the “Dashboards Availability Point”. In response to concerns about this timescale it has now settled on at least six months’ notice. The Secretary of State will also need to be satisfied that the dashboard ecosystem is ready to support widespread use of qualifying pensions dashboard services by the general public before the notice can be issued. The DWP intends that the necessary assessment process to reach such a decision can begin in April 2023. It also expects to publish progress towards the decision to ensure that the pensions industry is aware of the likely go live date.

 

• Information sharing – on Money and Pensions Service (MaPS) sharing information with the Pensions Regulator (TPR) the DWP intends to proceed as planned.

 

In addition, the DWP has laid before Parliament extensive regulations that amongst other things, set out what occupational pension schemes must do to connect with and supply information to pensions dashboards and by when they must do these things. Nearly all mainstream UK pension schemes must now ensure that they are ready for the challenge that these requirements will bring.

 

There are several key action points for both trustees and scheme administrators:

 

• Trustees:
  
  
  • Establish a dashboard readiness working party (if not already done so) and charge it with drawing up a plan of action to ensure that all necessary systems and processes are in place by the time the scheme is required to connect with and supply information to the dashboards ecosystem, including dealing with member queries that will inevitably arise once the ecosystem is live.
  • Assess what data will need to be supplied, from where it will be obtained, the quality of such data, how it will be ‘digitised’, and any calculation processes that will be needed.
  • For defined benefit (DB) schemes, consider whether administration systems currently support the default approach to deferred pensioner revaluation and, if not, whether the simplified approach can be used.
  • Consider whether to use a third party to interface with the dashboard or connect directly.
  • Consider the best approach to matching scheme data with a find request.
• Scheme administrators:
  
  
  • Ensure that all data needed either directly or to support calculations for the dashboard has been suitably cleansed.
  • Schedule development time for any changes to administration processes necessary to support find requests. Pay particular attention to the timescales for providing value data.
  • Schedule development time for any changes to calculation routines necessary to provide value data, in particular for deferred members of DB schemes.

 

Of particular interest for advisers as well as scheme members is the detail that must be included in Pension Dashboards:

 

• For money purchase schemes:
  
  
  • The current pot value, and from 1 October 2023;
  • The annualised income from that current pot value;
  • The projected pot value; and
  • The projected annualised income.
• For non-money purchase schemes:
  
  
  • for active members the pension that would be payable if pensionable service had ended on the illustration date, along with what they would receive should they continue in service until their retirement date but assuming no increase in their salary.
  • For deferred members the deferred pension on leaving service revalued in line with scheme rules to the illustration date should be returned.

 

 

PPI report identifies policies to improve retirement income adequacy
(AF3, FA2, RO4, JO5)

 

The Pensions Policy Institute (PPI) has published an analysis based upon the Wealth and Assets Survey dataset and PPI individual modelling: “Results Write Up: Modelling of pension policy options, analysis based upon the Wealth and Assets Survey dataset and PPI individual modelling”. The report was sponsored by the Pensions and Lifetime Savings Association (PLSA) and uses the PLSA's retirement income standards of minimum, moderate and comfortable, which are fixed income levels based on the cost of a “basket of goods” and the Pensions Commission's replacement rates, which are based on an individual's pre-retirement income.

 

According to the research, many people currently working are not on track to reach these targets for retirement adequacy, with the most apparent differences being between generations. Four policies, identified by the PLSA, were modelled as potential options for improving retirement income adequacy:

 

• Contribution rates,
• Qualifying earnings,
• State Pension level. and
• Minimum age of contribution.

 

The report stated: “The research conducted here helps to show that, through achievable policy changes, significant numbers of people can have their living standards improved. This is particularly the case for those who can be brought up from the minimum living standard to the moderate living standard. Modelling of different combinations of these policies... also shows that none of these policies alone are doing the heavy lifting, but rather that a combination of these policies together is needed to bring about the improvements seen.”

 

 

XPS: Turbulent market conditions cause transfer values to fall to record lows, and by almost one third since December
(AF3, FA2, RO4, JO5)

 

XPS Pensions has published a Press Release setting out statistics detailing how CETVs have fallen in so far this year. There has also been a corresponding fall in transfer activity; member’s requesting CETVs or progressing with transfers out.

 

Further increases on the yields of long-dated gilts caused the index to fall to an unprecedented low of £181,000 at the end of September, a drop of £16,000 over the month. XPS’s Transfer Activity Index showed an annualised rate of 38 members per 100,000 transferring pensions to another provider for the second month in succession. The number of transfers raising at least one scam warning flag rose slightly over the month to equal the previously recorded high of 97%, according to XPS’s Scam Flag Index.

 

XPS Transfer Value Index

XPS Transfer Activity Index

TPR sets out what to expect if you are the subject of enforcement action
(AF3, FA2, RO4, J05)

 

The Pensions Regulator (TPR) has published its Enforcement Strategy, which sets out TPR's approach to its enforcement work (excluding auto-enrolment) and aims to provide insight into the framework applied when selecting cases for enforcement action. Following a consultation earlier this year, TPR has also published its consolidated Enforcement Policy, updated Prosecution Policy and its Consultation Response.

 

Additionally they have also published a blog coving each of these topics.

 

Nicola Parish, TPR Executive Director of Frontline Regulation, said: “These new policies and the strategy are key drivers in implementing our long-term corporate strategy. They will focus our work to address issues around pension security and be a framework for us to be a bold and effective regulator.”

 

TPR has also published a blog in which TPR Director of Enforcement Erica Carroll details the reasoning behind the new and refreshed documents on TPR’s approach to enforcement. Ms Carroll states: “While our new strategy and policies are not a fundamental change in our approach, they give a clearer understanding of the enforcement journey and factors we will take into account throughout the life of a case. Our work in enforcement is constantly evolving as we take on more cases and test new powers... We continue to be transparent in the outcome of our cases through our publications and will revisit our strategy and policies if these outcomes require any changes in our approach.”

 

 

PPI - Lost Pensions 2022: What’s the scale and impact?
(AF3, FA2, JO5, RO4)

 

The Pensions Policy Institute has published Briefing Note 134 - Lost Pensions 2022: What’s the scale and impact? sponsored by the Association of British Insurers (ABI) and Punter Southall Aspire (PS Aspire).

 

In 2018, the Pensions Policy Institute (PPI) published Briefing Note 110 – Lost Pensions: What’s the scale and impact? This Briefing Note explored the definition of lost pensions, their estimated value and potential impact on retirement outcomes, and the effectiveness of current processes to reunite individuals with their retirement savings. It was supported by data from the PPI Lost Pensions Survey (2018). This year's Briefing Note revisits the lost pensions challenge four years on, supported by fresh data from the PPI Lost Pensions Survey (2022) and shows the scale of the problem of lost pension pots.

 

Some of the main finding include:

 

• The total value of ‘lost’ pension pots has increased by £7.2 billion over the last four years, new data published by the Pensions Policy Institute (PPI) reveals.

 

• Value of lost pensions has risen from £19.4 billion in 2018 to a staggering £26.6 billion in 2022.
• The number of lost pensions has increased by a whopping 73% during that period, pointing to large numbers of relatively small funds going missing.

 

• Despite this, the estimated average value of lost pension pots still sits at £9,470.

 

• Pensions Dashboards expected to make it easier for savers to locate old pots, boosting engagement and making it easier to combine pensions