Sarah Coles is head of personal finance at Hargreaves Lansdown
- Rumoured tax changes could hike your tax bill by over £85,000 – excluding potential inheritance tax changes.
- If you have a large estate and could be hit by rumoured changes to inheritance tax, then the potential cost could be hundreds of thousands of pounds.
- You can take sensible steps to cut the extra tax significantly.
Rumours about tax threats in the Budget have been circulating for weeks. One thing we can be certain of is that not all of the possible speculation will come to fruition, and much of it is hot air. However, at this stage, an awful lot hasn’t been ruled out.
When you delve deeper into the rumours, they don’t get any less alarming, because some of them come with an eye-watering level of additional tax. Inheritance tax rumours could prove some of the most expensive for those with really large amounts of assets. However, even if you focus on those that affect people on good earnings with decent chunks of savings and investments, the figures add up. Fortunately, there are steps you can take to protect yourself.
The cost of the rumoured changes
Capital gains tax – if there’s capital gains tax on more expensive properties
One rumour is that anyone selling a property for more than £1.5 million might have to pay capital gains tax on the amount that it has risen since they bought it. This is purely speculation right now, and we can’t know what rate it might be charged at if it was introduced, but if it was charged at 24% for a higher rate taxpayer, and if someone’s £1,500,000 property had increased by 15% since they bought it, they’d pay 24% of £225,000.
Possible extra tax (higher rate taxpayer): £54,000
Capital gains tax – if the rules on death change
The government could make a change so that capital gains no longer reset on death. If you have made a £30,000 capital gain on stocks and shares investments during your lifetime, this gain is wiped away so, if the investments were disposed of by your personal representatives, your estate would only pay capital gains tax on any increase in the value since your date of death. If capital gains tax rules change so the gain doesn’t reset on death and the tax rate remains the same, your estate will pay 24% on £27,000 of the gain – or £6,480.
Possible extra tax: £6,480
What you can do about CGT
For stocks and shares, it may make sense to crystalise gains each tax year, as you go along, to take advantage of your annual £3,000 tax free allowance. You can either sell, wait for more than 30 days, and buy the same assets, sell and buy different assets immediately, or use the share exchange (Bed & ISA) process to sell and buy the same assets immediately in an ISA – which protects them from capital gains tax in future too. You should also look at offsetting losses.
Cut to cash ISA allowance
Cuts to the cash ISA limit have yet to be completely ruled out – despite the horrible blow this could deliver to savers. If they’re saving for the short term, they could be forced to pay more tax through no fault of their own. If they have a longer time horizon and they’re still in cash, then the reason they’re not investing yet isn’t anything to do with tax. It comes down to the fact they’re not comfortable with investing because they don’t know enough about it, and the solution to this lies in building an investment culture in the UK – not making saving less tax efficient. If a higher rate taxpayer saved £20,000 a year in a cash ISA making 4% over the next three years, they’d pay no tax on those savings. If the allowance was cut to £4,000, the rest might go into a savings account each year, where they’d pay tax on interest every year.
Possible extra tax (higher rate taxpayer): £980
Income tax – if the freeze remains in place
The government could extend the freeze on tax thresholds – already set to run to April 2028. It means that every pay rise will mean more people paying more tax, and more tipping over into paying higher rates. If they are frozen for two more years, instead of increasing with wages, then assuming wages rise at 4%, someone earning £51,000 in the year to April 2028 could pay £1,530 more in tax.
Possible extra tax: £1,530
What you can do about income tax
Frozen tax thresholds risk pushing you into a higher tax band, where your personal savings allowance shrinks or disappears overnight, so more people will pay income tax on savings. If you have savings, it’s worth considering a cash ISA, where you pay no income tax on interest. You should also consider your pension. The annual pension allowance for most people is now up to £60,000. The fact you get tax relief at your highest marginal rate means higher earners in particular should look to take as much advantage as makes sense for their finances.
If you’re married or in a civil partnership and your partner pays a lower rate of tax, you can transfer income-producing assets into their name. It means you can both take advantage of your tax allowances. You can also use all the tax-efficient vehicles at your disposal, including your ISAs and pensions, as well as the Junior ISAs and Junior SIPPs of any qualifying children.
Other property taxes
Downsizing tax
One suggestion is that there would be a tax on sales of properties over a specific amount, replacing stamp duty. The cost would depend on how the tax worked, but if it entirely replaced stamp duty and was a percentage of the sale price, then someone downsizing from a property worth £1 million to £500,000 would go from the current position, where they pay £15,000 on the purchase of the smaller property, to one where they might pay a percentage of the sales price. There have been no potential tax rates suggested, but if for example it was 3% it would be £30,000.
Possible extra tax £15,000
NI on letting income
National Insurance is currently paid on earned income for those aged between 16 and state pension age and payable on earnings over £12,570 a year. If you’re employed, you pay 8% to the threshold of £50,270 and 2% above that. If you’re self-employed, the rates are 6% and 2%. Landlords currently pay income tax on rental profit, but not National Insurance. That profit is calculated after expenses and if there’s a mortgage on the property, there’s a tax credit of 20% on the mortgage interest.
Let’s assume a landlord is an employed basic rate taxpayer making £38,000 in salary and makes a £12,000 profit on their rental income after all their deductibles and their £1,000 property allowance. They will currently pay basic rate tax on the profits (because their personal allowance is used up by their earnings), so they have a tax bill of £2,400. If they were to pay 8% National Insurance on top, it would add another £960 to their tax bill.
Possible extra tax: £960
Inheritance tax – cap on lifetime gifts
At the moment, there’s an annual gifting allowance, but no limit on the size of gifts you can make that can become potentially exempt transfers. It means someone with plenty of assets could give away huge sums during their lifetime which wouldn’t be considered for inheritance tax. The government is said to be considering imposing a limit. The extra tax would depend on how the limit worked. If, for example, it was cut to £50,000, then someone with an estate worth £1.5 million, with a total nil rate band of £1 million, who might have planned to give away £500,000 during their lifetime, could only give £50,000 and their estate would end up paying 40% tax on £450,000.
Possible extra tax: £180,000
Cut to taper relief on potentially exempt transfers
At the moment, if you make a lump sum gift to an individual which doesn’t fall into one of the exemptions, it will fall out of your estate after seven years. If you die before this, and your total non-exempt gifts within the past seven years are more than your nil rate band, the excess is brought back into your estate for inheritance tax purposes and will be subject to inheritance tax. The taper relief means that as long as the gift was made more than three years ago, you pay a lower rate of inheritance tax – of between 32% for 3-4 years and 8% for 6-7 years. If the taper was removed, someone whose gifts over the threshold come to £500,000 and were made 6 and a half years ago, would see the tax on that portion of the gift rise from £40,000 to £200,000.
Possible extra tax: £160,000
What you can do about inheritance tax
If you’re worried that gifting could be limited, it’s worth taking stock of your position now. You might want to give gifts now, before any potential rule change, so you can take advantage of the current system. You can give up to £3,000 a year at the moment, which will fall within your annual gift allowance. You can give away larger sums and they will be outside of your estate after seven years. There’s a separate rule that means you can give away surplus income inheritance-tax free too. The gifts must form part of your normal expenditure and you have to be able to afford the payments after meeting your usual living costs. If you have children in your life who are under the age of 18, you could consider paying into a Junior ISA for them each year. If this was from your surplus income it would count as having been given away immediately for inheritance tax purposes, but is tied up until they reach the age of 18.
However, it’s absolutely vital not to give away too much, too soon, and leave yourself short. Don’t rush into making gifts because of the tax, before thinking more broadly about your spending needs in future, and how they may be affected by things like ill-health. If you’re finding it difficult to assess likely expenses, it could be one of the times in life when it’s worth talking to a financial adviser, because they can model this, and help you see just how much you can afford to give away.
Income tax as a result of a pension tax relief change
The current pension tax relief system provides a great incentive to save into a pension, with contributions attracting relief at your marginal rate. This means someone paying higher rate tax gets up to 40% relief on their contributions and an additional rate taxpayer gets up to 45%.
However, if the government opts for a flat rate of pension tax relief – say of 30% – then these groups would be badly hit. It means a pension contribution of £1,000 would cost £700 rather than £600 or £550 as it currently does. However, it would be beter news for those who pay basic rate tax as the same contribution would currently cost them £800.
Possible extra bill (higher rate taxpayer): £10,000 (on £100,000 of contributions)
What you can do about pension tax relief
If you pay a higher rate of tax and are worried about changes to the tax relief regime then it is a good idea to make the most of the system as it currently stands by making a contribution to your pension in the coming weeks. This means you can benefit from the higher rates of relief on offer to boost your pension.
