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Do you feel you pay too much tax? Would you like to find ways to cut your bills? You are not alone. While taxes remain one of life’s certainties, the drive to pay less of them is another.
But tax avoidance is no longer considered socially acceptable. When Theresa May, the prime minister, set out her vision for Britain last year, she spoke for many when she attacked people who dodged their liabilities. Tax, Mrs May said, is the “price we pay for living in a civilised society”.
HM Revenue & Customs has turned the tables on tax avoiders with tough new legislation and demands that they pay disputed tax up front. The schemes once routinely peddled by financial advisers have all but disappeared, leaving a trail of bankruptcies and lawsuits in their wake.
Yet many tax-saving ploys do not fit into the official definition of avoidance, which is “bending the rules of the tax system to gain a tax advantage that Parliament never intended”. The tax system is riddled with quirks, reliefs and deductions — some of which may surprise you — that can legitimately be used to cut your tax bills.
“There are still a number of ways in which the government allows and even encourages the wealthy to mitigate their tax bills,” says Jolyon Maugham, a barrister who has played a leading role in some high-profile tax cases.
He thinks some breaks are so generous that they amount to “welfare for the wealthy”. But he sounds a warning to people who are still interested in tax avoidance schemes. “Those who are greedy and stupid can still find opportunities to put their money into stuff that won’t work.”
“The world is changing very quickly in tax planning,” says Tim Stovold of Kingston Smith, an accountancy firm. “The days of very clever people designing schemes that worked in terms of the letter of the law have gone. Much of the focus is now on the layering of mundane reliefs blessed by government.”
1. Tax-free allowances
It is certainly worth trying to make the most of basic reliefs and allowances, as their value has increased sharply in recent years. If you can make use of the tax-free allowances for savings income, dividend income and capital gains as well as the basic income tax allowance, you may be able to receive over £28,000 a year free of tax.
2. Rent a room
If you rent out a room in your house, you can earn an extra £7,500 tax-free. The generosity of this “rent a room scheme” increased significantly in April 2016. Before then the threshold was £4,250. But there are constraints: you can only let out rooms in your home. It cannot be used for homes converted into separate flats.
3. Digital tax
From April, an extra £2,000 of earnings from property or trading income can also be sheltered. The two new £1,000 allowances are aimed at people who use web sites like Airbnb to rent out rooms in their homes and sell items on sites such as eBay. Announcing the tax breaks, George Osborne, former chancellor, said they were designed to “help the new world of micro-entrepreneurs who sell services online or rent out their homes through the internet”.
The scope for tax-free saving is also increasing with April’s rise in the Individual Savings Account (Isa) allowance to £20,000 and the launch of the Lifetime Isa (Lisa), helping young people save for their retirement or to buy a home. The Lisa is aimed at the under-40s who will be able to save up to £4,000 a year and receive a government bonus of 25 per cent. The options for tax friendly savings were also expanded recently with the ability to hold peer-to-peer loans in the new Innovative Finance Isa, shielding the interest repaid by borrowers from tax.
Pension tax breaks remain generous, even though the amount that can be saved this way has been significantly reduced. Indeed, pensions remain the most tax-efficient major form of saving, according to the Institute for Fiscal Studies, a think-tank. As with Isas, there is scope for saving in pensions on behalf of children. A maximum contribution of £2,880 a year is topped up to £3,600, thanks to tax relief.
6. Charitable giving
Those who earn more than the £43,000 higher-rate threshold might be able to cut their tax bills using tax relief on charitable giving, with the benefit split between the charity and the taxpayer. Charities and community amateur sports clubs can use “gift aid” to claim an extra 25p for every £1 given by taxpayers. A higher-rate taxpayer could then use their tax return to claim back another 25p.
For high earners, Enterprise Investment Schemes and Venture Capital Trusts which invest in small, higher-risk firms are also a popular source of tax relief.
EIS investments held for at least two years usually also qualify for relief from inheritance tax, as do other business assets and unquoted shares. Known as “business property relief” this costs the government £585m a year while inheritance tax relief on agricultural land relief costs another £450m a year.
8. Salary sacrifice
In recent years, the opportunities to avoid tax on employment income have drastically shrunk but employees can still save tax by swapping pay for perks. Despite planned cuts to “salary sacrifice” schemes there will still be opportunities to making savings on pensions, childcare, cycle-to-work schemes and ultra-low emission cars.
9. Inheritance tax
More generous still is this April’s introduction of rules scrapping inheritance tax on family homes worth up to £1m, which will cost £940m a year by 2021.
For those who can afford to give away their assets, the “seven-year rule” is the mainstay of inheritance planning. But while it is widely known that any gifts you make are exempt from inheritance tax if you live for seven more years, tax advisers say the exemption for regular giving is often forgotten. If you can establish a pattern of gifts, they will be tax-exempt from the start, as long as you can prove that giving away money did not hit your standard of living.
10. Family limited partnerships
Family limited partnerships have emerged as a tax-efficient alternative to trusts, which are now very heavily taxed. They give families wanting to hand down assets to a younger generation an element of control, allowing parents to dictate when youngsters are handed money. There is no inheritance tax on money transferred into a partnership, as long as the donor lives for another seven years. But there are traps for the unwary using this type of vehicle and this route is best suited for the wealthy and well-advised.
11. Gift and loan trusts
Another technique for inheritance tax planning is the “discounted gift trust”. This allows you to put a lump sum into trust for your beneficiaries, while retaining the right to regular payments. A similar tax planning device — “gift and loan trusts” — allows growth on investment bonds to accrue outside the taxable estate.
Such tactics might seem provocative. But Tina Riches of Smith & Williamson, an accountancy and investment management group, says the distinction between these types of arrangements and abusive schemes is that they are not contrived or circular. “You are not exploiting the legislation. You are using it. There is a subtle difference.”
Even so, advisers say that arrangements such as gift and loans schemes are no longer as popular as they were. Chris Groves of Withers, a law firm, says that banks and financial advisers sell them much less frequently than they used to, in part because of a backlash against high fee structures.
12. CGT transfers
A sometimes overlooked point is that capital gains tax liabilities are wiped out when the owner of an asset dies. If your spouse was terminally ill, you might be advised to make him or her a tax-free gift of any shares you own. Under the terms of your spouse’s will, the shares could then be passed back to you free of any inheritance tax. The portfolio would automatically be revalued for CGT purposes, wiping out the tax liability associated with the previous gains.
13. Classic cars
Not all tax planning is such a depressing affair. For vintage car enthusiasts, there is scope to turn a hobby into a valuable tax shelter. Classic cars have regularly delivering double-digit annual returns. In the ten years to June 2016, values increased by 458 per cent, according to Knight Frank, the estate agent. And the sums involved can be large. Last year, a $21.8m sale of a 1955 Jaguar D-Type set a new auction record for a British car.
While anyone repeatedly buying and selling cars is likely to have their gains taxed at income tax rates, most enthusiasts would escape tax altogether. With a few exceptions, such as single-seater racing cars, gains from selling cars are exempt from capital gains tax. The logic behind this tax benefit is that you cannot claim a tax loss in the far more common situation of a car falling in value.
Property enthusiasts can also have fun with a tax-advantaged asset. For taxpayers with more than one home, there is scope to maximise the capital gains tax break on their primary residence. Anyone buying an additional home has two years in which they can elect which property is their main residence, regardless of where they spend their time. The tax rules also allow you to claim relief for the last 18 months you lived in a property, even if you were not actually living there.
Switching the designation of properties — a practice known as “flipping” — can save large amounts of tax. But it became notorious in the 2009 MPs expenses scandal. The episode — which prompted the government to introduce new restrictions — was a dramatic example of the potential reputational risks from “perfectly legal” tax planning. But from a technical point of view, flipping still works.
It would even be possible for a wealthy individual to buy a London flat one month, a country house in Surrey five months later, a second house in Derbyshire two months later and a Scottish estate by the end of the year and make a main residence election after each acquisition. So long as they genuinely moved into all the properties, they could sell them in the course of the next couple of years and have no capital gains tax to pay on any of them.
That is a simplified example from the official guidance that accompanied the introduction of the 2013 general anti-abuse rule (GAAR) that outlawed unreasonable tax planning. It made clear that tax planners could no longer rely on their favourite legal dictum — a 1929 judgment that said nobody had any obligation to arrange their affairs so HMRC could “put the largest possible shovel into his store”.
But for the uninitiated, some of the practices deemed acceptable might be surprising. Paying a bonus to an employee in the form of a vintage car to avoid national insurance contributions would not be targeted by the GAAR, it said.
Recent dramatic falls in the corporate tax rate — from 28 per cent in 2010 to 20 per cent today, with plans for a further fall to 17 per cent by 2020 — have made companies a popular vehicle for tax planning. When it comes to avoiding tax, Richard Murphy, a professor at City University who campaigns for the closure of loopholes, says: “The big options are incorporation, incorporation and incorporation.”
Setting up a company can shelter income from work from national insurance contributions. Switching to a corporate form could save employed and self-employed individuals £3,300 and £700 a year respectively, if they had incomes of £30,000 a year, according to the Office for Budget Responsibility. Married couples have extra flexibility. Dividends and salaries paid out of family-owned companies are commonly arranged to shift income to a spouse who is taxed at a lower rate.
Property investors can also use companies to avoid new interest restrictions and benefit from lower tax rates, though they risk stamp duty and exit charges. There is also a growing trend for investors to use personal investment companies to benefit from low corporate tax rates. Capital lent to this type of “money box” company can grow tax efficiently, while income can be extracted via dividends in retirement when the individual’s tax rate is likely to be lower. The investment growth will fall outside the estate for inheritance tax purposes.
The big tax savings available from using companies have caught the Treasury’s eye. Philip Hammond, the chancellor, used his Autumn Statement to raise concerns about the tax system’s ability to keep up. While it is too soon to predict the shape of any crackdown, the ideas being floated include charging the self-employed higher national insurance, a return to pre-1989 rules designed to stop small companies hoarding cash and the introduction of higher corporate tax rates for non-trading companies.
If tax planning using companies ends up being squeezed, it may not be the only casualty of tough fiscal times. With the OBR forecasting a deficit of £20.7bn in four years, it is likely that the Treasury will scrutinise tax reliefs very closely, as their cost is far larger than that of the health service or any other government department and there is a growing debate about their value.
Taxpayers need to be mindful of political risk. The sudden withdrawal of a concession could affect asset values or leave them in a worse position than if they had never tried to cut their tax bills. Even so, cutting back tax reliefs is likely to prove harder than it sounds. In 2013, protests from charities forced Mr Osborne to withdraw plans to limit tax relief on philanthropy.
David Kilshaw of EY, a professional services firm, says much depends on the behaviour of others. In the same way as the alcohol industry tells customers to “drink responsibly”, tax advisers should ensure their clients use tax reliefs responsibly. “If you abuse reliefs you are spoiling the party for everybody.”