:: Personal Allowance ::

52 Ways to Save Tax #25

calculator-and-notes-2For years, pensions have been one of the most tax efficient ways to save. Unlike savings and investments such as PEPs, TESSAs and ISAs, pensions not only provide favourable tax treatment once your money is in the account, but also help you cut your income tax bill.

In the latest part of our “52 Ways to Save Tax” guide, we look at the income tax savings you can make through pensions. Keep reading to learn more.

52 Ways to Save Tax – Part 25: Cut your income tax by saving into a pension

If you want to save for your retirement and simultaneously reduce your current income tax bill, you can consider paying into a pension.

Pension contributions that you make receive tax relief at your marginal tax rate. So if you’re a higher rate taxpayer and you pay £8,000 into a pension, you will have a further £2,000 credited to your pension by HMRC. You can then reclaim an additional £2,000 through the self-assessment process, as long as you pay tax at the higher rate on at least £10,000 of your income.

In simple terms, you end up with £10,000 in your pension for a contribution of just £6,000.

Currently, the maximum amount of tax-relieved pension contributions that you can make is £40,000 per year or your annual earnings, whichever is lower. This is your Annual Allowance and it includes any contributions you make to other pension schemes and any contributions that other people make for your benefit (for example your employer).

You may be able to roll forward unused contributions from the past three tax years.

Bear in mind that your total gross contribution can’t be higher than your pre-tax income. However, if you don’t have any taxable income you can still pay up to £2,880 into a pension, and this will be grossed up to £3,600.

Factors you should bear in mind when contributing to a pension

While paying into a pension offers significant tax benefits, there are some factors that you should bear in mind.

Firstly, you need to remember that once you make a contribution to a pension, the investment is locked away until you reach the age of 55 (or age 57 from 2028).You can’t normally cash in a pension until you reach pensionable age – and this may have risen even further by the time you come to retire.

Accessing your pension fund when you retire may also mean that you have to take part or all of your savings as income, rather than as a cash lump sum.

In addition, it’s worth taking into account that the level and basis of tax can change. Pension rules are frequently changed and so contribution limits or the tax treatment of pensions could change in the future. In addition, the value of tax relief and tax-efficient accounts depends on your personal circumstances.

52 Ways To Save Tax #24

save taxBack in 2010, the Chancellor changed the personal allowance rules for anyone earning more than £100,000 per year.

For every £2 that you now earn above the £100,000 threshold, £1 of your personal allowance is removed. This means that high earners face an additional tax rate of 20 per cent on up to £22,000 of their income.

Keep reading to learn more and to find out how you can avoid this additional tax bill.

52 Ways to Save Tax – Part 24: Don’t earn over £100,000

For every £2 of income that you earn over £100,000 you will lose £1 of your personal allowance. Your personal allowance is zero if your income is £122,000 or above (tax year 2016/17).

If you earn £122,000 you will lose all of your £11,000 personal allowance. £11,000 of your income will then be taxed at 20 per cent and the £22,000 will have been taxed at 40 per cent. It all means that your marginal rate of tax on this portion of your income is a huge 60 per cent.

Dermot Callinan, UK Head of Client Advisory at KPMG, says: “It makes what its otherwise a progressive income tax system regressive.”

As wages go up, more and more taxpayers are falling into this trap. Estimates suggest that more than a million taxpayers will lose some or all of their personal allowance by 2018/2019.

Patricia Mock, a tax director at Deloitte, points out that as the personal allowance has risen since 2010 (from £6,475 to £11,000) the band of income on which this 60 per cent effective rate is paid has widened.

What you can do if you earn just over £100,000

To avoid paying an effective rate of 60 per cent on a small portion of your income, there are some steps you can take.

Firstly, you can top up your pension. By making an increased pension contribution you can reduce your ‘adjusted net income’ to under £100,000. You can use unused annual allowances going back three tax years to increase the amount you wish to contribute if you need to.

Ms Mock from Deloitte adds: “If you fall into the relevant income bracket, then sheltering your income by making a large pension contribution is a very practical way forward.”

Another way that you can reduce your adjusted net income is to make a charitable donation. Charitable donations are deducted from your income and can help you to bring your earnings below the £100,000 threshold.

Both these options will help you to cut your earnings to under £100,000 and you will avoid paying a marginal tax rate of 60 per cent on up to £22,000 of your income.

52 Ways To Save Tax #23

pay less taxDo your spouse or your children work for you? If they do, you could be paying them for the work they do and, in turn, reducing the profits of your business and the tax that you pay.

Employing your spouse or your children is particularly important where you are paying higher rate tax or if your spouse or child earns less than the current personal allowance. You may be able to reduce the tax that you pay by splitting your profits, earnings, or dividend income with your family member. Keep reading to learn more.

52 Ways to Save Tax – Part 23: Pay your spouse or children for work

If your spouse works in your business you can legitimately pay them a salary and contribute to a pension fund. A business partnership with your spouse can enable you to share trading income with them and your limited company can pay dividends to them if you each own some of the shares in the business.

Whilst there can be significant tax advantages to enjoy if you share your income with your spouse – particularly if they earn less than the personal allowance or you are a higher rate taxpayer – good professional advice is still recommended in order to minimise the risk of a challenge by HMRC.

Here are some tips to help you:

  • Payment must be for work actually done – you should draw up a list of your spouse’s responsibilities and keep a record of what they actually do. It is reasonable to pay them a salary commensurate with what it is they actually do, and you can base this on the ‘going rate’ for that work (the National Living Wage is a start).
  • The amount must actually be paid – you can’t simply ask your accountant to put the payment through your books at the end of the tax year. You need to actually make the payment, ideally through the bank so it is easy to prove.
  • Comply with PAYE procedures – you should get a P46 signed and complete the end of year PAYE forms as you would for any other member of staff. It may also help keep up their National Insurance contribution record even if they don’t pay any National Insurance on the salary.

By paying your spouse you can utilise their personal allowance and reduce your business profits, thereby reducing the amount of tax that you have to pay. You may also be able to do this if your children work for you, as we see next.

Employing your children in your business

Children under the minimum school leaving age can also be employed by your business for work that they do.

Bear in mind that children can only work a limited number of hours per week and the number of hours they can work is sometimes determined by the nature of the job (longer hours in occupations such as theatre and more restricted hours in areas such as bar work).

During term time children (from the age of 13) may work a maximum of 12 hours per week. During school holidays 13 to 14 year olds may work a maximum of 25 hours per week. 15 to 16 year olds may work a maximum of 35 hours per week.

Again, you should keep records of the work your children actually do for you. You should also pay them in the proper way (ideally through the bank).

What you need to know about the 2016/17 Tax Code 1100L

2016 tax code 1100L

2016 tax code 1100L

On 6 April 2016, the tax codes in the UK changed to reflect an increase in the Personal Allowance.

For millions of UK taxpayers their tax code will have changed to 1100L. This is the tax code that applies to most people who receive the full tax-free Personal Allowance and have no deductions. it is also the emergency tax code in the 2016/17 tax year.

Our guide looks at everything you need to know about the new 2016 tax code. Keep reading to find out more.

Your personal allowance

Every year, you are allowed to earn a certain amount of money before you start to pay tax. In the 2016/17 the Personal Allowance increased from £10,600 (in the 2015/16 tax year) to £11,000. This means that most people can earn £11,000 before they start to pay any income tax.

If your tax code features numbers and then the letter ‘L’ it means that you are eligible for the basic Personal Allowance (£11,000) in the 2016-17 tax year and you were born after 5 April 1938.

Working out your tax code

There are three steps to working out your tax code:

  1. Total up your tax allowances – these will most often be just the basic Personal Allowance of £11,000 although you may also have age related allowances or a Blind Person’s Allowance
  2. Total up untaxed income (‘deductions’) – this may include income from a second job, part-time employment, employer-provided benefits or untaxed savings interest. These deductions should be taken away from your allowances
  3. Divide this number by ten and add the letter that fits your circumstances. This will generally be L but could be M or N if you’ve transferred some Marriage Allowance or Y if you were born before 5 April 1938.

A 1100L tax code means that you are eligible for the basic Personal Allowance (£11,000) and that you have no deductions to take into account.

1100L is also the emergency tax code in the 2016-17 tax year

In some cases, HMRC may not have sufficient information about your income to provide your employer or pension provider with a correct tax code. In this situation, they will issue an ‘emergency tax code’ and this is used on a temporary basis while HMRC work out what your correct tax code should be.

If you have an emergency tax code it will ensure that you receive the basic tax free Personal Allowance (£11,000 in tax year 2016-17).  However, it doesn’t take any other allowances into account and so you may pay too much tax.

The emergency tax code is set each year by HMRC and is a number followed by the letter ‘L’.  In the 2016/17 tax year, the emergency tax code is 1100L.

Remember that having the 1100Ltax code doesn’t automatically mean you are on an emergency tax code. For example, you could be eligible for the basic Personal Allowance and have no deductions.

52 Ways to Save Tax #18

According to the latest data, there are around 1.4 million limited companies currently trading in the UK.

When you form a limited company you are creating something totally new that is yours to develop and grow. Becoming a limited company can also have significant financial advantages. In our guide, we look at how you can save tax by becoming a limited company. Keep reading to learn more.

52 Ways to Save Tax – Part 18 : Become a Limited Company

Private limited companies are privately owned businesses and are often referred to as a ‘limited company’. There are over 1 million limited companies in the UK, and, at the start of 2011, 56.5 per cent of these had employees. A limited company is:

  • Owned by its shareholders and run by its directors – if you set up your own limited company you are both a director and shareholder
  • A legal entity in its own right – the business has its own rights and obligations. For example, any profits and losses belong to the company and so it can continue regardless of the death, resignation or bankruptcy of any directors or shareholders
  • Registered at Companies House – your limited company will be registered and information about it will be available to the public
  • Governed by its own articles of association – these are the internal rules by which your company will be managed. Every limited company must have articles of association by law and all members of the company must adhere to these rules
  • Offers limited liability – this means the company is liable for its debts and the shareholders and directors are not personally liable

Choosing to become a limited company

Deciding to operate your business as a limited company is a big decision. There are lots of legal technicalities and ongoing administrative requirements in addition to the day-to-day responsibilities of running your company and generating a profit.

However, choosing to become a limited company can have many financial advantages. Firstly, as a director and shareholder of a limited company you can elect to take the majority of your income in the form of dividends rather than as a salary.

This enables you to manage your own tax liability and potentially save on National Insurance costs.

From April 2016, the first £5,000 of dividend income that you receive in each tax year will be tax-free. Sums above that will be taxed at 7.5 per cent for basic-rate taxpayers, 32.5 per cent for higher-rate taxpayers and 38.1 per cent for additional-rate taxpayers. You must use self-assessment to pay any tax due.

Bear in mind that dividend income is still eligible for the personal allowance. So if next year you had £15,000 in dividend income, the first £11,000 would be covered by the personal allowance and the other £4,000 by the new dividend allowance. As a result, you would pay no tax.

As a Limited Company the only person you have to pay is yourself. Combined with the tax efficiencies on offer, this means you can keep anything from 81 to 86 per cent of the profits that you make.

The 1060L Tax Code Explained

Lady and treeIn the 2015/16 tax year, millions of taxpayers in the UK will have the tax code 1060L.  This tax code applies to you if you receive the full tax free Personal Allowance while 1060L is also the ‘emergency tax code’ for the 2015-16 tax year.

Keep reading to find out everything you need to know about the 1060L tax code in 2015 and 2016.

What is the ‘L’ tax code?

In the UK, every person is allowed to earn a certain amount of money without paying any income tax. This is called your ‘personal allowance’.

In April 2015 the Personal Allowance increased from £10,000 (in the 2014/15 tax year) to £10,600. This means most people can earn £10,600 before they start to pay any income tax.

If your tax code features numbers and then the letter ‘L’ it means that you were born after 5 April 1938 and you are eligible for the basic Personal Allowance (£10,600) in the 2015-16 tax year.

If your tax code ends in ‘Y’ it means that you were born before 6 April 1938 and you are eligible for the full Personal Allowance. If your tax code ends in ‘M’ or ‘N’ it means that you’ve either transferred or received 10% of your Personal Allowance to/from your partner.

Working out your tax code

To work out your tax code, you first have to add up your tax allowances.  For most people this will be just the basic Personal Allowance although you may also have age related allowances or a Blind Person’s Allowance.

You then have to total up the income that you haven’t paid tax on. This may include untaxed savings interest, income from a second job or untaxed company benefits.  These are your ‘deductions’ and they are taken away from your allowances.

What is left is the amount you can earn in the tax year before you pay any income tax. You should the divide this number by 10 and add the letter which fits your personal circumstances.

For millions of people the steps to working out their tax code will be:

  1. Allowances – Basic personal allowance of £10,600
  2. Deductions – none
  3. £10,600 divided by 10 = 1,060
  4. Born after 5 April 1938 and eligible for full Personal Allowance = letter L
  5. Tax code therefore 1060L

Why 1060L may be your ‘emergency’ tax code

If you have recently changed jobs, you have more than one job or you haven’t sent your current employer a copy of your P45, HMRC may not have sufficient information about your income to send your employer or pension provider a correct tax code. Here, they will issue an ‘emergency tax code’ which is used on a temporary basis while HMRC establish what your correct tax code should be.

If you have an emergency tax code it will ensure that you receive the basic tax free Personal Allowance (£10,600 in tax year 2015/6).  However, it doesn’t take any other allowances into account.

The emergency tax code is set each year by HMRC and is a number followed by the letter ‘L’.  In the 2015/16 tax year, the emergency tax code is 1060L.

Note: If you have the 1060L tax code it doesn’t automatically mean you are on an emergency tax code. For example, if you are eligible for the basic Personal Allowance and have no deductions you may have the same tax code.