Never mind the Budget: As UK tax burden hits record highs - seven ways to give yourself a tax cut

The UK tax burden is surging to record highs, but irrespective of possible tax cuts in the Budget, households can focus on steps they can take to reduce their own tax burden, according to financial planning and tax advisory firm Evelyn Partners.

Analysis today from think-tank the IFS found that even after the cuts to National Insurance in the Autumn Statement, official forecasts suggest taxes in 2023–24 will be £66 billion higher than they would have been had their share of national income been held at its 2018–19 level.

Tax revenue as a share of national income is forecast to continue rising so that in 2028–29 it will be 37.7% (the highest since WWII), and equivalent to £104 billion bigger in today’s terms than it was in 2018–19. The IFS said this was in large part ‘fuelled by freezes to thresholds in the personal direct tax system’.

Gary Smith, Partner in Financial Planning at wealth management firm Evelyn Partners, says:

“All the talk around tax recently has been of what the Chancellor might announce in his spring Budget on 6 March. However, even if Jeremy Hunt finds room for some tax cuts, they are unlikely to make much of a dent in the overall tax burden that is rising and due to rise further in the coming years,

“There are some relatively straightforward steps that everyone can consider taking before the end of the fiscal year on 5 April to streamline their tax efficiency.”

Smith says he has been reminding clients that, surprise announcements in the Budget notwithstanding, key allowances for capital gains and dividend income will be cut further from 6 April after being slashed in April 2023, Plus, most tax bands and thresholds are frozen.

“Irrespective of what is announced in the Budget, if earners, savers and investors have not reviewed their tax position in this fiscal year, it’s definitely time to do so now,” Smith says.

“Many allowances are calculated on a yearly basis, so a pre-tax-year-end review can help to identify any potential tax savings, particularly as some changes are afoot on 6 April. Even if it’s too late to take some steps by the end of this tax year, tax planning is a year-round exercise, and it pays to start looking ahead to next year.”

Here Smith sets out seven key areas where there are possible tax-mitigating steps to take.[1]

1. Reducing taxable income and the 60% tax trap

The highest rate of tax is 45%, which from last April has applied to individuals with total income over £125,140. Personal allowances are tapered for individuals with income between £100,000 and £125,140, which means the marginal tax rate in this band is 60%.

Smith says: “There are some relatively easy steps you can take to reduce taxable income, and that can be particularly tax efficient if you are about to or have just fallen into this 60% marginal tax rate band.” These include:

• Making pension contributions or charitable gift aid payments
• Transferring income-generating assets between spouses/civil partners
• Using tax-free investments and/or tax efficient investments
• Investing in assets which generate capital growth rather than income
• Altering the timing of income to maximise use of lower rate bands

2. Pension contributions – using your annual allowance

Pension contributions are typically the most powerful way of saving for retirement – with tax relief given at an earner’s marginal rate of income tax - but are also increasingly a tool for overall tax-efficiency.

Smith says: “As millions of people are drawn into higher tax bands and paying tax on more of their income, increasing pension contributions is one of the few ways to mitigate against this and keep more of one’s income.

“This benefit is accentuated in salary sacrifice payroll systems that also afford relief against National Insurance contributions.”

The pensions annual allowance, which is the total one can save into a pension while still benefitting from tax relief, is now £60,000, having been raised from £40,000 at Jeremy Hunt’s last Budget. But if your annual 'net relevant earnings’ are less than £60,000 then that forms the limit for tax-relieved contributions in a tax year.[2]

The highest earners are also restricted by the tapered annual allowance: this means individuals with “threshold income” of over £200,000 and "adjusted income" of over £260,000 are subject to a steadily diminishing annual allowance down to a minimum of £10,000.[3]

Smith says: “For high earners, who typically earn a significant proportion of their compensation on a variable basis, such as bonuses, it can be difficult to be sure of what ‘total adjusted income’ will be until the very end of a tax year, meaning lack of clarity about how much they can subscribe to a pension without inadvertently exceeding their allowance.”

You may also be able to take advantage of any unused annual allowance from the previous three tax years to make additional pension contributions under the “carry forward” rules – although the total amount you pay in in one tax year can still not exceed net relevant earnings.

Smith says: “The higher rates of pension tax relief are not something that can indefinitely be taken for granted. Chancellors in years have reportedly considered watering down higher and additional rate tax relief, to save money for the Treasury, and a change of Government could put this back on the agenda.

“Raising pension contributions is rarely going to be a disadvantageous move for most people, so some savers might decide they want to take advantage of these reliefs – and the higher annual allowance – while they are available.”

The scope to raise pension contributions has been expanded not just by the raising of the annual allowance to £60,000 but also by the removal of the Lifetime Allowance. With the LTA charge cancelled in this tax year and LTA itself disappearing from 6 April, many savers who are close to the old LTA of £1,073,100 have been given the green light to resume or increase their pension contributions.

Smith says: “Labour have said they could replace the LTA if they gain power – but all savers can do is act according to the rules as they are, and it seems unlikely that decisions taken now under current rules would be penalised if the pensions tax environment is altered yet again in the future.”

3. Giving to charity can also save you tax

If you pay tax at the 40% rate or higher, you may benefit from tax relief on gift aid donations you make to charity. Spouses should consider making sure that any charitable donations are made by the spouse with the higher marginal tax rate to maximise income tax relief.

Individuals can gift quoted shares or an interest in land to a charity. This has the advantage of income tax relief being available on the market value of the asset as well as the disposal being exempt from capital gains tax.

4. Tax on your savings income – sharing with your spouse

Some individuals have a starting rate band of £5,000 for savings income, subject to the level of their total income, and £1,000 for dividend income in 2023/24 - although the latter falls to a meagre £500 on 6 April. Savings and dividend income falling within these bands is taxed at 0%.

Separate to the starting rate savings band, a personal savings allowance is available to basic and higher rate taxpayers but not to additional rate taxpayers. The allowance is £1,000 per year for basic rate taxpayers and £500 per year for higher rate taxpayers.

Smith says: “Spouses and civil partners should review who holds any savings that generate taxable income to ensure these allowances and rate bands are utilised efficiently. You should be aware though that the dividend allowance halves to £500 from 6 April, so business owners or partners who have control over when and how dividends are paid might want to make sure they have used up this year’s allowance.”

5. Making use of tax-free or tax-efficient investments

There are various tax-free and tax-efficient investments available, and our financial planning specialists can advise you on whether or not any of these investments are suitable for you.

You can consider making tax-free investments through ISAs or National Savings. The annual ISA subscription limit for 2023/24 is £20,000, and this limit cannot be carried forward if not used. You can also consider Junior ISAs for children under 18, for which there is a separate annual allowance of £9,000.

Normally, income arising on funds given to children by a parent remains taxable on that parent if over £100 a year. As ISA income is not taxable, this allows you to give cash to your children without having to pay tax on the income generated.

Enterprise Investment Scheme, Seed Enterprise Investment Scheme and Venture Capital Trust investments may provide tax relief and the opportunity to defer capital gains. These investments are considered high risk, and there is a risk of further changes to the schemes, potentially even at the 15 March 2023 Budget.

6. Capital gains tax – it’s all about the timing

As capital gains tax is charged when an asset is sold, you have some control over when to pay it. If you have unrealised gains, you may find it beneficial to sell enough assets each year to use your CGT annual exemption, which is £6,000 in this tax year.

Smith says: “Crystallising unrealised losses to offset gains may also be an option. You can consider selling an asset which stands at a loss, or making a ‘negligible value’ claim on assets that currently have no value. Assets can also be transferred between spouses free of tax, which can help to use up both spouses’ annual exemptions and any capital losses.

“The capital gains tax annual exempt amount will halve again to £3,000 from April 2024, which is less than a quarter of the £12,300 that was available as recently as the in 2022/23 tax year, so many investors will still be adjusting to this new tax landscape. The further imminent drop in the CGT allowance could be an incentive to accelerate gains if you have unused allowance in the current tax year, as planning around the annual exempt amount will become more difficult.”

7. Inheritance tax – making use of reliefs

Gifts you make to other individuals are generally not subject to IHT unless you die within seven years. There is also an annual gift allowance of up to £3,000 per tax year, and this will not be subject to IHT even if you do die within seven years. This £3,000 annual allowance can only be brought forward for one tax year, so if you have assets to spare you may want to consider using up this and last year’s allowance before 5 April.

The current year’s allowance is automatically used first. It is per donor, not per recipient, so a married couple can make gifts independently.

Smith says: “With the nil-rate band for IHT frozen at £325,000 for 15 years and due to remain so – surprise Budget measures notwithstanding – even those with relatively modest estates might want to look at ways of minimising a future IHT bill. Gifting is one way to do that, and so is paying more into a defined contribution pension, as these are treated very favourably by IHT rules.”

NOTES

[1] In England and Wales.

[2] ‘Net relevant earnings’ are the total earnings for an individual (including salary, bonuses and value of many benefits in kind for employees and trading profits of the self-employed) for the tax year.

[3] Both include all taxable income, not just earnings. Investment income of all types and benefits in kind, such as medical insurance premiums paid by the employer are also be included. Adjusted income includes all pension contributions (including any employer contributions), while threshold income does not.