Personal taxation

In chapters 2, 3, 4 & 5 the study text was accompanied by a number of examples and practice questions in relation to the calcula...

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...nd reliefs)

Using different types of investments in relation to their current and future potential tax position

 

Non-taxpayers and starting rate taxpayers face different challenges to other taxpayers. Non-taxpayers should aim to ensure that their capital is invested to produce income, which will maximise their tax allowances and the starting rate band.

They should aim to select investments where the income is paid gross or where any tax deducted is reclaimable.

Although tax-free investments can be very attractive to higher ...

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... on the closing date)

Cashing single premium investment bonds or selling units/shares in offshore roll up funds

Where income is received from a trust or the drawdown facility from a pension, it may be possible to arrange to have this postponed from one year to another

What type of investments should be a primary consideration for non-taxpayer and starting rate taxpayers?

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Those who do not usually use their exempt amount could consider selling investments to realise gains within the annual exempt amount. Where assets are being offset against gains, only sufficient losses to reduce the gain to the annual exempt amount should be brought forward. Where assets can be split, such as shares or unit trust holdings, it may be beneficial to make any required sales in two transactions over two tax years, in order to benefit from two annual exempt amounts.

The higher rate of capital gains tax is still significantly below the income tax rat...

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...ssets end up becoming worthless and in this event the investor can claim the loss against capital gains. For assets that became of negligible value in the 2022/23 tax year, the deadline for claiming the relief is 5 April 2025.

A CGT liability can also be deferred by making an investment into an Enterprise Investment Scheme or partially exempted through the Seed Enterprise Investment Scheme (SEIS).

Why might it beneficial for higher and additional rate income taxpayers to select investments that produce capital growth?

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National Savings Certificates, Individual Savings Accounts (ISAs) and the Child Trust Fund/Junior ISA are all completely free from income and capital gains tax.

National Savings Certificates (when they are available) allow lump sum investments to be made for a fixed term of up to five years and have tax free interest added. An index-linked variety has also been available for fixed terms up to five years, where returns take account of inflation. The interest rate achieved depends on how long the investment is held, so a lower return will be achieved if they are encashed early.

Tax-free savings accounts such as NS&I Savings Certificates are most attractive to higher and additional rate taxpayers who would have to receive a much higher return on another form of investment to give the same return. This can be calculated by dividing the return by 0.6 for higher rate taxpayers and 0...

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...se are made by a parent on behalf of their child, there will not be any liability for income tax even if the income generated exceeds £100 per year.

The Help to Save account is not tax-free but provides a 50% government bonus. It is a new type of Bank account aimed at low-paid workers who want to start saving. They will only be available to those receiving Universal Credit or Working Tax Credit and will have a maximum monthly deposit of £50. Accounts must be open for two years before the first bonus will be paid. After two years, the accounts can remain open for a further two years or be closed. Therefore, the maximum amount that can be saved over a four year period is £2,400 earning a tax free bonus of £1,200.

Why are National Savings Certificates not suitable for investors wishing an investment that produces income?

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Enterprise investment schemes (EISs) and venture capital trusts (VCTs) give tax relief as an incentive to investors for investing in them. However, they are generally high risk and with a low degree of liquidity.

The enterprise investment scheme provides tax relief to investors who subscribe for new shares in small trading companies not listed on the Stock Exchange. Tax relief is given at 30% up to the annual permitted maximum in a tax year, which is £1m a year (£2m if investments in excess of £1m are made in knowledge-intensive companies). After three ...

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...of £200,000 for newly issued shares in them. Income tax relief is withdrawn if the shares are disposed of within five years (unless the disposal is to a spouse or civil partner). A venture capital trust is similar to an investment trust and invests in a range of companies. Dividends from VCTs are free of income tax and there is no liability for capital gains tax on disposal (and the shares do not have to be held for a minimum period for this to apply).

Explain the taxation of dividends paid from Venture Capital Trusts (VCTs).

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Depending on the investments which underlie life assurance policies and the tax position of the individual investors, these can be relatively tax efficient. For some individuals they can act as tax shelters, as the tax liability on the income and capital within the fund is at a lower rate than that which would be paid by the investors at their own tax rates. It may be possible to encash the investments at a time when there is little other income and therefore pay little or no tax on the gains. However, for other investors the taxation on the actual fund may be more than they would pay individually if they held the funds in another form.

Issues to be considered include:

The taxation of the fund will vary depending on whether it is a UK or offshore policy

The taxation position of the individual investor over the period that the investment is held – it may be very different at the eventual time of encashment

Any gain is added to the investor’s other income in the year of encashment and taxed accordingly. If the gain when added to other income is still within the basic rate band, no tax is due. If other income is already taxed at the higher rate and the gain is also within the higher rate, income tax is due, but a credit is given for basic rate tax so higher rate taxpayers only have to pay the difference between higher and basic rates...

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...iums are increased, or the term is extended.

Taxation of offshore policies

Offshore life policies benefit from having no taxation within the fund (apart from withholding taxes), but the final encashment is subject to income tax at the investor’s highest rate. The funds are typically free of tax on the capital gains within the fund, but the gross roll-up of income in the fund is only partial. Most income from fixed-interest securities and cash deposits roll up free of tax, while dividends are subject to withholding tax. The gross returns should be higher than the gross returns from onshore funds but the net returns may not be higher after the tax paid on encashment.

The entire profit on encashment is subject to income tax at the investor’s highest rate in the year of encashment, with no relief for any tax paid within the fund. The profit is derived from different sources of growth and income within the fund. Although capital gains are not taxed within the fund, they are subject to income tax for the investor as a part of the overall profit at a higher rate than an individual CGT liability.

The 5% annual withdrawal allowance is also available on offshore bonds, with the same implications as for UK bonds.

How does an offshore life policy differ from an onshore policy in the taxation of the fund?

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Leaving the UK

Individuals who leave the UK to work or retire abroad are subject to special tax rules based on the concepts of residence and domicile. Due to recent changes in interpretation by HMRC, it is becoming harder to completely avoid UK tax.

For these individuals, planning is of particular importance to avoid paying more tax than necessary while out of the UK and on any future return. This should start well before they plan to actually leave and take account of the legislation in the new country, which will frequently require specialist advice.

Although it may be possible to avoid UK taxation on income and gains this is pointless if it results in higher taxation in the new country. The following guidance is based on the assumption that the UK tax would be greater than that in the overseas country, but in certain circumstances the guidance may need to be reversed.

All savings and investments should be examined to determine whether they are suitable for the new country of residence. Some may be kept in their existing form, while others may need to be encashed and replaced with new investments in the new country or moved to an offshore investment. The terms of double taxation agreements should also be fully checked.

British citizens are still entitled to a UK personal allowance for their UK income and a capital gains tax exempt amount, which is relevant unless they will be non-UK resident for at least five years after departure. After five years of non-UK residence there is no liability for capital gains tax. However, from 6 April 2015, non-UK residents have been liable for gains made on disposals of residential property situated in the UK, although only gains accruing from 6 April 2015 are taxed. It should be remembered that to establish a non-residence status, it is necessary (from HMRC’s poin...

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...on overseas income and gains that are brought to the UK

The Finance Act 2008 introduced a number of anti-avoidance tax rules that now make it much harder to avoid tax on overseas income and gains that are brought to the UK. 

Trusts

An individual who placed UK assets into an overseas trust before they became a UK resident cannot avoid CGT on gains realised on those assets. They will be taxed when receiving future payments from the trust as beneficiary.

Investments

The same rules that apply to UK investments normally apply to any investments a non-domiciled individual holds in the UK. Investment in an ISA is only available to those who are resident in the UK, which does make them available to non-domiciled individuals. Offshore bonds are suitable for those who choose not to use the remittance basis, as the funds are largely free of UK tax and, in certain situations, the 5% withdrawal allowance can be remitted to the UK without incurring a tax charge. It may also be possible to avoid UK and foreign tax on encashment of bonds while non-UK domiciled and not resident in the UK.

Inheritance tax

A UK resident who is currently non-UK domiciled for IHT purposes may become deemed domiciled after 15 years out of the previous 20 years of UK residence, making their worldwide assets liable for inheritance tax. If the overseas assets were transferred into a trust while they were not UK domiciled, these assets would be protected from IHT even if the settlor later became UK domiciled. These trusts are known as ‘excluded property trusts’ and are normally discretionary trusts where the settlor can be one of the beneficiaries.

When a UK domiciled individual returns to the UK after a period of non-residence, when are they able to claim the personal allowance?

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