If you are a higher-rate taxpayer and have not carefully developed a tax planning strategy, then you run the risk of missing out on key tax allowances and paying more in taxes than you need.
To start with, it’s important to look at how you might be able to minimise tax along the way. In other words, reduce tax where you can. However, it’s important that you don’t allow it to be your sole focus when making investment decisions or steer you away from achieving your core financial goals. The more tax wrappers and annual allowances you use, the more money you’ll be able to save and invest for your future. It’s simple really!
We’ve put together some methods you should consider using to help you minimise your tax bill.
Ways to save tax-efficiently for higher-rate taxpayers:
Individual Savings Accounts (ISAs)
One of the most straightforward ways to invest tax-efficiently in the UK is to invest within a Stocks & Shares ISA. They are very flexible and allow you to access your money at any time, and all of the proceeds taken are free. The current annual ISA allowance is £20,000 per person. This means that a couple can now save £40,000 per tax year between them into two Stocks & Shares ISAs.
Once higher-rate taxpayers have used up their own ISA allowances, they could also consider investing for their children or grandchildren by putting money into a Junior ISA. Currently, the annual allowance for Junior ISAs is £9,000, and each child can own one as long as they are under 18, living in the UK and they don’t have a Child Trust Fund. Bear in mind, however, that on the child’s 18th birthday, money in a Junior ISA becomes theirs.
Save into your pension
Contributing to a pension is another tax-efficient strategy that those on higher incomes may wish to consider. Not only are capital gains and investment income tax-free within pension accounts, but when you contribute into a pension, the Government provides tax relief. This is paid on your pension contributions at the highest rate of Income Tax you pay, meaning that higher-rate taxpayers receive 40% tax relief, while additional-rate taxpayers receive 45% tax relief.
For 2023/24, the annual pension contribution limit for tax relief purposes is 100% of your salary or £60,000, whichever is lower. If you are considered to be a high-income individual and have an adjusted income of more than £260,000 per year and a threshold income of more than £200,000 per year, your annual allowance will be tapered. You may be able to make use of any annual allowance that you have not used in the three previous tax years under pension carry-forward rules.
Venture Capital Schemes
The purpose of venture capital schemes is to provide funding for companies that are in the relatively early stage of the business cycle. Experienced investors who are comfortable with high levels of risk may want to consider venture capital schemes. There are three investment schemes that have been set up by the UK Government and offer very generous tax breaks.
The Enterprise Investment Scheme (EIS)
This scheme is designed to encourage investment in early-stage companies that are not listed on a stock exchange. It offers investors a range of tax breaks, including Income Tax relief of 30%, no Capital Gains Tax on gains realised on the disposal of EIS investments provided the investments are held for three years, Capital Gains Tax deferrals if proceeds are invested in qualifying EIS investments, and Inheritance Tax relief if the investments are held for two years.
The Seed Enterprise Investment Scheme
This scheme is designed to promote investment into start-up companies that are raising their first £150,000 in external equity capital. Like the EIS, it offers a range of generous tax breaks, including Income Tax relief of 50%, no Capital Gains Tax on gains realised on the disposal of SEIS investments provided the shares are held for three years, reinvestment tax relief, and Inheritance Tax relief if investments are held for two years.
Venture Capital Trusts (VCTS)
VCTs are investment companies that are listed on the London Stock Exchange and invest in smaller companies that meet certain criteria. VCTs offer investors a range of tax breaks including 30% Income Tax relief, tax-free dividends and tax-free growth. While all of these schemes offer generous tax breaks, it’s important to be aware that due to the high-risk nature of investing in small, early-stage companies, they will not be suitable for everyone. Only those who can afford to take the risk should consider these tax-efficient investment schemes.
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Information for readers: This material is published for the information of clients. It provides only an overview of the regulations in force at the date of publication, and no action should be taken without consulting the detailed legislation or seeking professional advice. Therefore no responsibility for loss occasioned by any person acting or refraining from action as a result of the material can be accepted by the authors or the firm.