Higher earners breathe sigh of relief

Higher earners expecting to bear the brunt of the chancellor’s tax increases have been spared big increases to capital gains tax and income tax in the emergency Budget.

Having proposed taxing non-business capital gains “at rates similar or close to those applied to income” – suggesting rates near 40-50 per cent for high earners – the coalition government has instead maintained the current flat rate of 18 per cent for basic-rate tax payers and introduced a new 28 per cent rate for higher-rate taxpayers with income of more than £43,875. So, with the annual allowance frozen at £10,100, only those investors with income and gains of more than £54,975 will be liable for the higher rate.

David Doulton, director at financial advisers Fair Investment Company, said: “CGT has not been raised up to 50 per cent as speculated, and the exemption allowance has not gone down to £2,500 like the Lib Dems proposed, so many higher-rate tax payers will be breathing a sigh of relief.”

Wealthy owners of buy-to-let properties and second homes are likely to face higher tax bills as a result, but property analysts do not expect a sell-off or fall in prices as a result. Stuart Law, chief executive of property advisers Assetz, said: “This move is not likely to have a negative impact on the UK property market as speculative investors are unlikely to sell off their buy-to-let property once this new tax rate is introduced at midnight tonight.” He pointed out that the new 28 per cent rate was still lower than the top CGT rate of 40 per cent that was in force three years ago.”

However, higher earners who have made profits on more liquid assets – such as shares – can sell today and pay the old 18 per cent rate, as the new 28 per cent rate does not come into force until midnight, Wednesday June 23.

Higher earners will also see little change to their income tax, even though the personal allowance for under-65s will be increased by £1,000 from April 2011, taking the tax-free limit to £7,475.

The chancellor said that 23m basic-rate taxpayers will gain up to £170 from the change, as more of their income will be tax-free rather than facing a 20 per cent deduction. The increase will also mean 880,000 current taxpayers will no longer have to pay income tax, he added.

However, for higher-rate taxpayers, the benefit of the increased tax-free band will be offset by a lowering of the point at which 40 per cent tax kicks in, to about £42,375 from £43,875 in the current tax year.

The chancellor also confirmed that the higher-rate threshold will be frozen until April 2014. This will prompt further “fiscal drag” – higher-rate taxpayers paying 40 per cent tax on more of their earnings, and middle earners becoming subject to 40 per cent tax for the first time.

Meanwhile the 1 percentage point increase in employees’ National Insurance Contributions (NICs) announced by the previous Labour government will go ahead from next year. The Upper Earnings Limit (UEL) at which the new 2 per cent NI rate kicks in from 2011 will also be reduced by about £1,650, the Treasury confirmed.

It said the combined effect of the increased personal allowance and the threshold reductions will be that most higher-rate taxpayers will pay the same total amount of tax and NICs next year as previously announced.

However, expected changes to tax relief on pension contributions, as well as the introduction of a single annual contribution allowance, failed to materialise. Instead, the chancellor made a commitment to simplify the tax relief rules for higher earners. Under the current rules introduced by the Labour government, those earning more than £150,000 have their contributions limited to £20,000 a year, or the average of their last three annual contributions up to a maximum of £30,000.

Friends Provident said the coalition would be able to achieve a saving of £3.5bn with a new annual limit of between £40,000 and £45,000. Trevor Matthews, chief executive, said: “Today’s commitment to look at replacing the previous government’s complex proposals with an elegant solution that achieves the same revenue objective is a move in the right direction. It is a welcome first step that begins to remove the uncertainty that has been lingering over pension planning in the UK for some time. I am hopeful this will bring an end to the tinkering with tax relief on pension saving and now we can look forward to a more simplified and stable approach.”

All investors will continue to benefit from tax-efficient individual savings accounts (Isas), which advisers suggested were the best way to protect against higher CGT. “Maintaining the CGT allowance means that the vast majority of savers, once they have utilised their Isa and pension allowances, will not need to pay capital gains tax,” said Patrick Connolly of advisers AWD Chase de Vere. “This will mean that people are not discouraged from saving for their futures.”

Some believed tax shelters would become more valuable in years ahead, as tax rates may yet rise further. Louise Somerset of RBC Wealth Management said: “The limited nature of today’s announcements so far as taxation is concerned immediately raises the question of whether the chancellor will need to take a second bite of the cherry later. Wealthy taxpayers may be worried that there is worse to come, and I expect to see plenty more clients wanting to act in the next few months to lock in current tax rates before things get worse.”