Time to think about year end tax planning?

As the end of the tax year approaches on Saturday 5 April 2014, now is the time to give some thought to year-end tax planning opportunities.

Income tax and personal allowances The Chancellor confirmed that in 2014/15 the personal allowance would rise by £560 to £10,000. At the same time, the basic rate band 

will shrink by £145 to £31,865, leaving the higher rate threshold just 1% higher next tax year, at £41,865. There is no change to the £150,000 starting point for 45% tax, nor the £100,000 threshold at which the personal allowance starts to be phased out.

The basic personal allowance for 2013/14 is £9,440. If it is not used before the end of the tax year it will be lost. The personal allowance is reduced by £1 for every £2 by which income exceeds £100,000. It may be possible to avoid losing the personal allowance by reducing income below £100,000. This could be achieved by making pension contributions, deferring some income until after 5 April 2014, making charitable donations or transferring income-producing assets to a spouse or civil partner. This strategy will save tax at an effective marginal rate of 60% for income between £100,000 and £118,880. 

The best way to pick up and use any unused personal allowance is for the company to pay interest on any current account balance held by the shareholder or director. Although this would require the company to deduct tax and complete form CT61 to report the interest paid and pay over the tax deducted to HMRC, the individual will be able to recover the tax deducted later. Of course, this is only possible if the individual has a positive balance on their account with the company.

Pension contributions It is possible to benefit from full tax relief on contributions to registered pension schemes, and this can help to make them very tax-efficient investments. The tax relief is capped at the higher of £3,600 and 100% of earnings, although this is restricted to the annual allowance, which is set at £50,000 

for 2013/14 but will reduce to £40,000 from 2014/15. The annual allowance can be carried forward for three years, after which time it is lost. 

Tax-efficient savings It could be wise to invest in an individual savings account (ISA) by 5 April 2014. The ISA allowance for 2013/14 is £11,520, of which £5,760 can be in cash.

Capital gains planning Each individual can realise capital gains of up to £10,900 in the current tax year free of capital gains tax. Married couples and civil partners can therefore realise gains of up to £21,800 tax-free in 2013/14. 

What is the most important thing about inheritance tax planning?

This is a question not oft asked, but it really should be considered more often, by advisers as well as their clients.  I am sure most would quickly respond with "paying no more than you owe", "making sure you pay as little as possible" or even "taking advantage of the tax system, without breaking it".  Whilst all of these would have their place (except perhaps the last), they overlook matters such as affordability, desirability and of course the topic of the moment, moral suitability.

In short, inheritance tax planning is becoming, and should always have been a lifestyle choice.  A favourite example of mine when speaking with clients is that I can ensure they pay no more inheritance tax than they want to, however, this may well involve them downsizing their property, driving a smaller car and taking less holidays (if any at all).  This is because in order to do so they would need to reduce their estate down to under £650,000 (for a married couple, or £325,000 for a single person).  Not surprisingly over the years very few have thought this a good idea, and whilst it is never intended as such it illustrates the point well, that the elimination of tax has undesirable side effects and that what we must look to do is rather mitigate it so far as possible without affecting the clients lifestyle.

This means that with my clients I take a very different approach to how we look at this journey, and it often is one, taken over many years if the planning is to be successful.  Inheritance tax planning is not a "band-aid" moment for most, it is the careful structuring of their affairs over a number of years either to protect against inheritance tax, or even other detractions from the estate you intend to pass to your children.  First and foremost in this process is the need to establish a clients goals and objectives, what do they really want out of life.  There is little point in me advising them to give away the family holiday home if they intend to retire to it in their dotage, or to make a gift of the vintage car that they enjoy tinkering with so much.

On top of this one should also look to mitigate the financial pain of such planning, ultimately inheritance tax planning means giving assets away, or altering their structure so that they fall within certain reliefs and exemptions of tax law.  In doing this a proper assessment of a client's income is needed.  If one had to choose between making a gift from two assets, is it not pertinent to give away the one that generates the least income?  Coupled to this of course must be questions about access to the remaining capital, one should not seek to give away access to all of your liquid assets without being able to readily replace them.

When making such gifts you should also consider how they are made, are they simply made outright, or would you prefer to retain a measure of control over the gift?  Indeed, might you want to protect against your intended beneficiaries suffering an unpleasant life event, such as divorce or bankruptcy?  These are questions that raise their head more often than not in the course of such a journey, and the answers are of course relatively straightforward as a clients needs, whatever the answer to these questions, can easily be met with a little forethought as to the structure of their planning.

Funnily enough, the tax actually comes last, but that is not to say it is unimportant.  Countless times I have seen new clients that have made mistakes in their planning by not considering how one tax might affect another.  Capital gains tax for example, just because you are gifting something rather than selling it does not mean that a tax liability will not arise, and I have seen such things result in some unpleasant enquiries by the tax authorities in the past.  I cannot stress enough the importance of getting proper advice from a qualified tax professional, often simply speaking with your accountant will not be enough.

Hopefully I shown you the important things to think about, and I'll end with one last word of advice, if ultimately undertaking a tax planning exercise is to painful in terms of loss of income or enjoyment of assets you can always do nothing.  Yes, paying 40% inheritance tax is a galling prospect, however it won't be you paying it, as you'll no longer be here, it is in effect your children's problem rather than yours.  Therefore, there is always the option to "do nothing", which in my opinion is not considered often enough by advisers.

Exploding the 'Care Costs' myths...

Care costs are a very emotive subject for those that have either been affect by, or even seen their parent's generation affected by the spiraling costs of care and having to sell their home to cover those costs.  Most people view their home as their principal asset, and method of leaving an inheritance to the next generation.  There was some hope for those so affected with the introduction of a cap to these fees, but the circumstances around that cap can be a little misleading to say the least.  Here I look to explode a few of the myths about the cost of care under the current structure...

Under the new rules I won't have to sell my home

MYTH The Government has made much fanfare of the fact that its new rules won't compel people to sell their homes when they go into care. Most have interpreted this to mean that they won't have to sell their homes at all, and will be able to leave it to their children. Unfortunately, this is not the case as all the new rules do is alter the timing of such a sale. Rather than be forced to sell it upfront when you go into care, the local authority will put a charge on your home, which will be recouped from your estate after your death.

The maximum I will spend on care will be £70,000.

MYTH It is expected that the cap will be set at this amount. However, this does not mean that this is the maximum that you will have to pay for care.

Despite common conception, the costs of accommodation and food (the 'hotel bill') are not included in the cap.  The 'cap' will also exclude some personal care costs, such as hairdressing costs, help with dressing etc.

If you need nursing care, the local authority will make an assessment of what it will pay towards this cost. If you cannot find a nursing home to deliver this care at this price, or you cannot find one you like within this budget, you or your family will have to 'top up' the difference. These additional payments are not covered by the care cap.

I will be able to leave a bigger inheritance under the new rules

PART MYTH This is not necessarily the case. The cap will help a small proportion of people who have substantial medical needs and spend years in care. But the average nursing home resident, who spends a little more than two years in care, will not really benefit from the change.

In addition, while it is possible for the local authority to put a charge on your home now, under the new rules it will also charge interest on what will effectively be an equity release scheme. Rather than just paying for the care fees from the sale of the home, people face paying care fees plus interest.

I own my home. There is nothing I can do to help cover care costs

MYTH If a family member needs care, it is a good idea to seek specialist legal help. A qualified adviser should be able to explain the different options available. This can deal with arranging one's affairs in such a way as to shelter assets, or to make better use of those assets to prevent their capital value from being eroded (i.e. by paying care costs out of income).  There are many solutions to this problem, beyond just selling the family home and spending the capital in care costs.