As each tax year draws to an end, so do some opportunities to save on tax. And with the pandemic creating a big hole in the public finances, tax rises are likely on their way in the not-too-distant future. Plans take time to put in place; taxpayers should take action now.
Work and tax
The first thing to consider is whether you’ve used all of your allowances. The UK tax system is very complex and there are lots of reliefs and allowances which individuals can take advantage of, provided they meet the necessary conditions. Guidance is available on gov.uk, but you need to know what you are looking for.
The UK tax system is very complex and there are lots of reliefs and allowances which individuals can take advantage of, provided they meet the necessary conditions
Tax relief for employees
Where the employer has not already reimbursed the employee for costs they have incurred while doing their job, it is possible to claim tax relief on costs including homeworking, professional fees and subscriptions, uniforms and work clothing, and travel and subsistence costs.
Individuals forced to work from home as a result of the pandemic are entitled to claim tax relief on homeworking allowances of £6 per week for 2020/21 and 2021/22 without needing to produce evidence of the costs incurred. If the costs of heating, light and water use while working from home exceed that, then it is possible to claim tax relief for more costs provided that you have supporting evidence to prove the additional costs incurred.
Employees who are not in self-assessment can use HMRC’s dedicated portal to check their eligibility and then claim tax relief on their expenses online.
Trading and property allowances
These two allowances were introduced in 2017 and allow individuals full relief from income tax on small amounts of trading and property income.
The trading allowance is available in full where the turnover (not profits) from trading income in a tax year is no more than £1,000. The property allowance similarly applies to relieve income from rental where the gross receipts in the year are no more than £1,000.
If your turnover or gross rental income exceeds £1,000, it is also possible to claim partial relief by deducting £1,000 from your turnover/rental income instead of claiming for your actual expenses
If your turnover or gross rental income exceeds £1,000, it is also possible to claim partial relief by deducting £1,000 from your turnover/rental income instead of claiming for your actual expenses. You can’t claim both expenses and the allowances – it has to be one or the other. Claiming the allowance rather than expenses is worthwhile if expenses are less than £1,000 or the individual hasn’t kept full records of their costs.
Make it personal
Tax, by its very nature, has a personal element to it. And with some planning, it’s possible to use other allowances to reduce tax liabilities.
Especially for higher rate taxpayers, it is worth adding up the value of donations made under Gift Aid in order to get some tax relief. A charity can recover the individual’s basic rate tax of 20 percent on any gift-aided donations. For a net donation of £1, this means the charity can reclaim 25p of tax from the government. A 40 percent rate taxpayer will have paid another 25p of tax which they can recover from HMRC themselves. This can be done through self-assessment, or by asking HMRC to amend your tax code.
Especially for higher rate taxpayers, it is worth adding up the value of donations made under Gift Aid in order to get some tax relief
Each year individuals can gift up to £3,000 without inheritance tax (IHT) consequences by using the annual gift exemption. Gifts within the allowance are not added back to the donor’s estate even if they die within seven years. Helpfully, this gifting allowance can be carried forward up to one year, so if you haven’t made a gift in the previous tax year, it is possible to make gifts totalling £6,000 in the current year without any IHT implications.
Capital gains tax
In the same way that individuals have an amount of tax-free income each year, they can also make gains up to an annual exempt amount (£12,300 for 2021/22) without triggering capital gains tax.
Looking to the future
Just as there are allowances to save on tax, there are allowances to save and invest.
Pension contributions can significantly reduce current tax bills but pensions are a complex area and it is essential to obtain advice before starting or changing your contributions, particularly as funds placed in a pension may not be accessible again for many years.
Pensions are a complex area and it is essential to obtain advice before starting or changing your contributions, particularly as funds placed in a pension may not be accessible again for many years
In essence, making a pension contribution reduces a tax bill because either the pension scheme claims the basic rate tax back on the contributions made out of after-tax pay (and the individual reclaims any extra higher rate tax from HMRC) or the contributions can be made out of gross, pre-tax income – reducing the amount of income on which tax is calculated.
Because of the significant tax advantages, there is a limit to how much can be put into a pension and still benefit from the tax relief each tax year – another reason to review contributions before the tax year end.
An individual’s annual allowance is the lower of £40,000 or their “relevant earnings” – which is broadly the total of earned income such as employment income and income from self-employment, but excluding unearned income such as interest, dividends, pensions or rental income. One of the reasons that pension contributions are often left to the end of the tax year is to ensure that the best estimate of relevant earnings can be made.
Because of the significant tax advantages, there is a limit to how much can be put into a pension and still benefit from the tax relief each tax year
The position gets more complex for those on higher incomes, as the annual allowance is tapered down the more an individual earns over certain limits until it reaches a minimum of £4,000. This restricts higher earners from making pension contributions. Fortunately, the point at which the taper kicks in was significantly increased in April 2020, so the tapering now starts for those with incomes in the region of £240,000, rather than £150,000; higher earners who were previously advised that they had limited capacity to contribute to a pension should review if they can now contribute more.
There are also limits on how much can be held in a pension pot before other tax charges start to bite. The lifetime allowance for the 2021/22 tax year is £1,073,100. Where an individual’s total pension pots exceed this limit, they may incur additional tax charges when they come to cash it in. Again, this is another reason for those considering making larger contributions to take advice before doing so.
Individual savings accounts (ISAs)
ISAs are tax-advantaged products which allow capital to grow tax-free because the income and gains from funds invested in an ISA are not taxable. Individuals are limited in how much they can pay in and any unused allowance cannot be rolled forward, so it’s a use it or lose it allowance each tax year.
ISAs are tax-advantaged products which allow capital to grow tax-free because the income and gains from funds invested in an ISA are not taxable
Since their launch in 1999, ISAs have evolved and there are now four different types of ISA – cash ISAs, stocks and shares ISAs, innovative finance ISAs and lifetime ISAs.
Not everyone can invest in each type of ISA. You need to be over 16 for a cash ISA and over 18 for the other three.
For lifetime ISAs you must be 39 or younger when you open the account and saving for either your first home or your retirement. Provided certain conditions are met, individuals investing in a lifetime ISA will receive a bonus from the government of £1 for every £4 invested until they turn 50. This bonus is another reason not to miss out on the potential to contribute each tax year.
There are limits on how much an individual can invest in any tax year. The total limit across all four types of ISA for 2021/22 is £20,000 – of which no more than £4,000 can be invested into a lifetime ISA.
For those who have maxed out their own ISA, it is possible to provide for children via a Junior ISA. Generally, parents need to take care when transferring money to children under 18 as special rules mean that if the income generated from capital gifted by a parent to their child exceeds £100 per year, that income remains taxable on the parent. However, these rules do not apply to Junior ISAs which can be set up for a child under 18 who does not have a Child Trust Fund. The subscription limit for a Junior ISA is £9,000 for 2021/22.
Parents need to take care when transferring money to children under 18 as special rules mean that if the income generated from capital gifted by a parent to their child exceeds £100 per year, that income remains taxable on the parent
For those who opt to save outside of ISAs then there are further allowances to reduce the tax due. The savings allowance varies according to the individual’s income but for basic rate taxpayers up to £1,000 of savings income can be outside of tax. This reduces to £500 for higher rate taxpayers and there is no allowance for those paying tax at 45 percent rates. A similar relief exists for dividend income.
Tax and time are mutual bedfellows. While it is often said “don’t let the tax tail wag the investment dog”, don’t take action purely on the tax benefit – tax opportunities do come and go. With the payback for coronavirus starting in April 2022 with measures including the Health and Social Care Levy and increases to the dividend rate, it’s sensible to look at every option now before doors are closed in April.