Business Matters – Issue 16

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Ahead of the game:

3 key tax changes to be aware of

Tax year-end:

Time is on your side

Business owners:

The true value of your pension

ISAs:

Maximise your retirement savings

Taxing matters:

Case study

Ahead of the game: 3 key tax changes to be aware of

Navigating the maze of taxes and exemptions that affect businesses can be hard work at the best of times, but there are now a number of post-pandemic tax changes to take stock of, too. With the end of the tax year on the horizon, here are the key updates that business owners should be aware of – and how they could impact your decisions going forward.

Tax may, understandably, not feel like the most important thing in the world when you’re a business owner. But the harsh truth is that not paying attention to it can result in material financial harm.

And there’s no time like the present to get to grips with your business tax – with the end of the tax year coming up on 5th April. What’s more, the government have recently announced a number of updates to the tax regime, as the economy emerges from the COVID-19 crisis.

Understanding what your business needs to do before April can help you to prepare ahead of the deadline. Here are three of the key taxes that are changing:

  1. Corporation Tax is increasing from 19% to 25% from April 2023 on profits of more than £250,000, with an effective marginal rate of 26.5% applying to profits between £50,000 (below which the 19% rate continues to apply) and £250,000.
  2. Employer, employee and self-employed National Insurance is increasing by 1.25% from April 2022.
  3. Dividend Tax is increasing by 1.25% from 6th April 2022.
  1. Corporation Tax

One of the biggest changes for many incorporated businesses in the next few years is an increase in the rate of Corporation Tax. From April 2023, the rate will increase from 19% to 25% on profits of more than £250,000. Companies with profits below £50,000 will pay 19%, while those with profits between £50,000 and £250,000 will pay a tapered rate up to the full 25%. 

  1. Dividends

If you own a business, and take dividend income instead of a salary, it’s important to remember that a tax rise is coming. From the next tax year (starting on 6th April 2022), Dividend Tax is set to increase by 1.25% across the board (although there remains a tax-free dividend allowance of up to £2,000) – which makes it worth your while to hold your stocks and shares in an ISA if you can. If you’re a limited company director and pay yourself in dividends from the business, it could make sense to take a bigger dividend before 5th April 2022 – the end of the tax year – before the tax rate increases.

  1. National Insurance

The government has also recently announced an increase of 1.25% both employer and employee Class 1 NI from April 2022. Always remember to ensure enough earnings over the NI threshold are registered each year to build future state-pension entitlement. What’s more, salary sacrifice arrangements (for example, for employers rather than employees making pension contributions), will offer even greater savings in 2022/23.

Goal-setting

And as well as these changes, many personal tax bands, thresholds, reliefs and allowances have been frozen until April 2026 – which we dive into in detail in the following article. All of these need to be factored into the decision on how best to withdraw money from a company.

With so many moving parts – not to mention the pressures of running your business – having to make tax-smart, informed decisions can be daunting.

The starting point is to be clear about what’s important to you and your business – effectively, being clear about your goals and why you want to achieve them. Any personal and business financial plan should be developed based on this clear foundation. It should be a means to an end. Achieving your financial objectives will, of course, be that little bit easier if you build in tax efficiency.

Your trusted guide

With such a minefield to navigate, if there’s one way of making sure you’re maximising your tax allowances, it’s by consulting a professional financial adviser. We can help you optimise any money coming into your business and make decisions for the future of your business and your personal finances in the years ahead.

For example, some of the above tax allowances are not necessarily straightforward, as there can be small but potentially crucial nuances in the rules because they relate to different business types. Yet with the right advice, it’s possible to maximise tax efficiency while continuing to focus on the everyday running of your business.

Here at Wellesley, we incorporate your tax situation into a broader, long-term financial plan – ensuring that, in spite of the current challenges, you still have the best chance of keeping momentum and moving your business in the right direction in 2022…and beyond!

Get in touch today: 01444 244551.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select and the value can therefore go down as well as up. You may get back less than you invested.

The levels and bases of taxation, and reliefs from taxation, can change at any time. The value of any tax relief is dependent on individual circumstances.

Tax year-end: Time is on your side

As well as ensuring your business taxes are in shape before 5th April, it’s time to seize the moment and ensure your personal investment strategy is still working hard for you. To help you stay on top of your finances this spring, we’ve created a handy tax year-end checklist.

Spring is commonly associated with fresh outlooks, so it’s the ideal time to firm up those goals for the year ahead and get into good habits that will make a real difference to your life.

Financial goals are the perfect place to start – after all, it’s about creating long-term financial security for you and your family. And, with the end of the tax year approaching on 5th April, why not get ahead in making the most of the allowances we can use that help our money go further?

To help, we’ve delved into the various allowances in more detail to help you make the most of your tax-saving opportunities before 5th April. Read on to discover more, and click the link below to download your tax year-end checklist:

Download

Pensions

A pension is a tax-efficient way of saving for your retirement and, thanks to greater choice and flexibility, it’s a more attractive option for retirement savers than ever before. This tax year, you can pay in up to a maximum of £40,000 or 100% of your salary – whichever is lower.

The key numbers:

  • Contribution limit: Most people get tax relief on pension contributions worth up to 100% of their earnings, capped at £40,000 each tax year. This is called the ‘annual allowance’.
  • Carry it forward: If you don’t use all your allowance in one year, you can ‘carry it forward’ for up to three years.
  • Lifetime allowance: The limit on the total amount you can build up in pension benefits over your lifetime while still enjoying the full tax benefits has been frozen at £1,073,100 until April 2026.

ISAs

ISAs are a great way of making your money work harder for you. Everything you earn from it is free of Income Tax, Capital Gains Tax and Dividend Tax – so you won’t pay tax on interest, withdrawals or profits. Win, win!

The two most common kinds of ISA are Stocks & Shares ISAs, and Cash ISAs. If you’re prepared to keep your money in your ISA for at least five years (or longer), Stocks & Shares can be a great way to go. That’s because, over the long term, stock markets tend to rise – so as long as you won’t need to access the money any time soon, Stocks & Shares ISAs have the potential to give you a greater return in the long run, particularly as interest rates are currently so low.

The key numbers:

  • Contribution limit: Individuals who are 18 or over can invest up to £20,000 in an ISA this tax year.
  • Spouses and partners: Check they’ve maximised their ISA allowance to fully utilise the combined allowance of £40,000.
  • Tax boost: Returns from an ISA are free of Income Tax, Capital Gains Tax and Dividend Tax.
  • Use it or lose it: You can’t carry forward your allowance, so this year’s will be lost if it is not used.

Junior ISAs

Taking care of your own finances is just the start, as those of younger family members might need some attention too. You can contribute up to £9,000 per child into a Junior ISA with no further liability to Income Tax or Capital Gains Tax. Another benefit is that by gifting money to your children, you’re removing money from your own estate, which could help reduce the amount of Inheritance Tax payable on your estate when you die.

The key numbers:

  • Contribution limit: A Junior ISA allowance of £9,000 per child this tax year is available for those who are under 18.

Inheritance Tax and estate planning

The end of the tax year is a timely reminder to get your house in order and make the best use of other tax breaks and allowances – helping you prevent your family from paying unnecessary Inheritance Tax (IHT).

Although the minimum tax-free threshold of £325,000 per person may seem generous, the 40% rate at which IHT is paid on the rest of your estate is not. Fortunately, there are several steps you can take to reduce your beneficiaries’ Inheritance Tax liabilities – so act before 5th April to take advantage of these.

The key numbers:

  • Your gifting allowance: You can give away up to £3,000 each tax year, IHT-free.
  • Carry it forward: You can make use of any unused gifting allowance from the previous tax year.
  • Double up: Using this and last year’s allowance, a couple could potentially remove £12,000 from their joint estate before 5th

Capital Gains Tax

Capital Gains Tax (or CGT) is one of the most complex taxes to understand, so it’s no wonder that people fall into the trap of paying unnecessarily or end up being fined for not paying when they should.

Essentially, you’re liable for CGT when you sell an asset at a profit. This could be anything from a second home to stocks and shares or valuable items such as jewellery. There’s a tax-free allowance of £12,300 for this year, then after that the rate is dependent on the level of income tax you pay – 10% for basic-rate taxpayers and 20% for higher-rate payers (and 18% and 28% respectively if you’re selling a property).

Seize the day

The tax year may not end until 5th April, but there’s no need to leave everything until the last minute. Whether you need to top up your ISA, make extra pension contributions or put other changes in place, it’s worth carving out time well before April.

What’s more, a regular check-in with a financial adviser will give you the impetus and momentum to keep on top of everything. Here at Wellesley, it’s our job to give you dedicated and informed financial advice, tailored to you and your specific needs, so please don’t hesitate to give us a call on 01444 244551.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds selected and may fall as well as rise. You may get back less than the amount invested.

The levels and bases of taxation, and reliefs from taxation, can change at any time and are generally dependent on individual circumstances.

Business owners: The true value of your pension

What’s the value of a pension if you’re an entrepreneur? It can ensure you can fund the retirement you want, plus it’s also a tax-efficient way to extract profits from your business. Read on to find out more.

If you’ve recently branched out to set up your own business and are looking to secure financing, win your first clients, or find office space, you may find that you’re struggling to see beyond the next month – never mind decades into the future.

It goes without saying, however, that decision-making for the long term is crucial, particularly where pension contributions are concerned. Saving for retirement isn’t only a sensible strategy for all entrepreneurs, but also an exceptionally tax-efficient way to draw profits from your business.

Claire Trott, Divisional Director – Retirement and Holistic Planning at St. James’s Place Wealth Management, says:

“You’re getting maximum bang for your buck. It’s an allowable business expense, so it reduces your profits for Corporation Tax and is not subject to employer’s or employee National Insurance.”

Many business owners are unaware of how easy it is to begin saving into a pension. If you count yourself amongst them, carefully read this article – it will explain some of your options and show how pension savings can be a smart, tax-efficient way to take capital from your business.

How do you set up a pension?

If you’re a limited-company director, you simply need to select a personal pension and follow the steps to go about setting it up. Saving with a recognised provider would give you a range of funds to choose from, whereas a Self-Invested Personal Pension (SIPP) would mean wider investment options that you can either self-manage or use a professional – such as a fund manager – to manage on your behalf. You could alternatively set up a company pension scheme.

Once you’ve made your decision, the most important thing to action as a limited-company director is to make sure the pension contributions are made through the company. If you pay yourself a salary and subsequently make contributions from that, it’s subject to both employer and employee National Insurance, which then reduces the amount you can save into your pension. However, be aware of the fact that as soon as the company hires an employee, an auto-enrolment pension must be set up, otherwise you run the risk of being fined.

What are the tax benefits?

The below table compares the benefits of using business profits to save into a pension vs paying yourself a salary or paying yourself through dividends. All are based on the assumption that the company has £20,000 to distribute and that the dividend allowance has already been used.

What are the annual limits for saving into a pension?

The annual allowance for paying into your pension pot before you have to pay tax stands at £40,000. Certain circumstances might allow you to carry over unused allowances from up to three years previously. If you’re a high earner with a threshold income of more than £200,000 and an adjusted income of more than £240,000, your annual allowance is reduced (this is known as the tapered annual allowance). Ask your Wellesley financial adviser for further information.

What are the risks?

Despite the fact that it’s the most tax-efficient way of extracting profits, pension savings can’t be accessed until you’re 55 (increasing to 57 from 2028) – they therefore don’t help with personal finances up to that point. Many business owners opt to diversify the distribution of their profits between salary, dividend and pension contributions. Again, your Wellesley financial adviser is best placed to advise you and help you strike the right balance here.

Can my business be my pension?

Many entrepreneurs decide against saving into a pension because they believe that selling their business will sufficiently fund their retirement. While this indeed might be the case, unforeseen circumstances can, however, mean the company fails to perform as expected, thus reducing your income in later life. What’s more, there are considerable tax charges to take into consideration when selling a business.

Trott says:

“It is very risky because you don’t know what’s going to happen in the market between now and the moment you retire. The business you’re running, although you may think it’s future-proofed, may not be. Just because you’re really good at your business, it doesn’t mean someone will be ready to take it over or willing to give you the money you think it’s worth.”

Take advice

Trott continues:

“It’s really important to take advice. I’d urge people to have two advisers – a financial adviser, who will talk about your limits and what you put into your pension. But you’ve got to involve your accountant as well, because what you don’t want to be doing is putting money in that doesn’t get Corporation Tax relief.”

If you’re a business owner and would like to find out what the best option is for you and your business when it comes to pensions, don’t hesitate to reach out to your Wellesley financial adviser today.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select and the value can therefore go down as well as up. You may get back less than you invested.

The levels and bases of taxation, and reliefs from taxation, can change at any time. The value of any tax relief is generally dependent on individual circumstances.

The flexibility of a SIPP allows you to spread the risk, especially if some investments perform badly. However, these do tend to have higher costs than a standard pension and active management is essential to maximise the benefits of the wider investment choice on offer. For these reasons, they will not be suitable for everybody and generally only those who are fairly experienced at actively managing their investment should consider this type of investment.

ISAs: Maximise your retirement savings

When formulating your retirement savings plan, choice and flexibility are key to achieving your life goals. With a range of income options available on reaching this life stage, it’s important to maximise on the range of tools at your disposal ahead of 5th April.

Pensions and ISAs are usually first to come under the spotlight when tax year-end rolls around. But did you know that investing in an ISA alongside your pension can be a valuable shield against tax when it comes to retirement?

Pensions remain the first port of call when saving for retirement – and for good reason. A range of benefits – including tax – accompany them, and they should form a fundamental pillar of any retirement savings plan, but it’s important not to rely on this alone.

Saving for retirement is all about choice and flexibility these days; instead of relying solely on a pension, there are many more income options available on reaching retirement and, with people today expected to live for two or three decades in retirement, it’s important to make the best of the different tools at your disposal.

The most natural accompaniment to a pension is an Individual Savings Account (ISA). These were introduced in 1999 to replace Personal Equity Plans (PEPs) and now form a major part of the retirement savings landscape.

Tony Clark, Senior Propositions Manager at St. James’s Place Wealth Management, points out that there’s long been a debate about which is the better retirement savings option: pensions or ISAs. He argues that using both is the best option, giving you instant diversification and more options.

“Now that it’s easier to access a pension as well as an ISA, the two products are much more broadly aligned. Having both offers more choices when making retirement decisions, and with the tax advantages you’re getting the best of both worlds.”

Working together

Tax treatment is the main difference between ISAs and pensions. The annual ISA allowance is currently £20,000, which you can use across Cash ISAs, Stocks and Shares ISAs, Innovative Finance ISAs, Lifetime ISAs, and Junior ISAs – although there are annual limits of £4,000 and £9,000 on the latter two respectively.

In the context of retirement savings, it’s normally Stocks and Shares ISAs that we refer to here, although Cash ISAs are also important to have in your saving toolkit. Generally, the money you pay into an ISA will be taxed beforehand, and as it’s paid out of net income, there’s no Income Tax due on the interest or dividends you receive.

Contrastingly, pensions aren’t taxed as you pay the money in, because the government offers tax relief on pension contributions at your marginal Income Tax rate. For every £80 you pay in, therefore, your pension scheme can claim another £20 in tax relief – simply, a £100 contribution costs £80. Higher-rate taxpayers get a further 20% relief, meaning they only have to pay in £60 for a £100 contribution – likewise, those on 45% Income Tax can claim relief at 45%.

Anything over the basic rate of tax needs to be reclaimed via your individual tax return and are subject to eligibility. You will be charged Income Tax on pension withdrawals above the 25% tax-free cash entitlement, however.

The other main difference is that pensions can’t usually be accessed until you turn 55 (going up to 57 in 2028), whereas there is no age restriction on withdrawing money from an ISA.

“Pensions tax relief provides tax-efficient growth and access to a proportion of tax-free cash, while your ISA gives you another allowance entirely, so it makes sense to use both,” says Clark.

Allowances

Making use of both helps savers to navigate between the annual and lifetime pension allowances.

The annual pension allowance is the amount you can contribute in a tax year while still benefitting from tax relief. This is currently £40,000 but reduces by £1 for every £2 of adjusted income you earn over £240,000. The lifetime allowance is the maximum amount you can accumulate over your lifetime without potential charges, currently frozen at £1,073,100.

To make the most of this from a tax perspective, it’s best to consider where the two products fit into your overall financial plans. A financial adviser can be of particular value here, helping to answer your questions such as which pot to access first in retirement and what that could mean for your taxes.

“When it comes to all the allowances and limits, the adviser will have a watching brief over those and guide you along the best course of action,” says Clark. “For example, your plan might be to access the ISA before the age of 55, especially if you want to retire before then. It depends on your future plans, and that’s where an adviser can help you map out which products to use.”

They can also help make sure you’re investing in a way best suited to achieving the goals you’re aiming for. “If people aren’t sure which to use, that tells us they’re lacking a plan,” says Clark. “An adviser will sit down with you and work out what you want to achieve and the purpose of the savings you’re putting aside.”

If you’d like to find out more, get in touch with a Wellesley adviser today!

The value of an investment with Wellesley Wealth Advisory will be directly linked to the performance of the funds selected and may fall as well as rise. You may get back less than the amount invested.

A Stocks and Shares ISA does not have the security of capital associated with a Cash ISA.

The levels and bases of taxation and reliefs from taxation can change at any time and are dependent on individual circumstances.

Please note that Wellesley Wealth Advisory does not offer Cash, Innovative or Lifetime ISAs.

Taxing matters: Case study

You might be reading the above articles thinking: “This all sounds very well, but what does it mean for me and my business?” We understand that tangible examples are sometimes easier to understand, so we’ve put together a working example of a business – showing how by taking advice, they were able to streamline their pension practices and become more tax-efficient.

*Please note this case study is based on a fictional company and owners, but accurately reflects how advice would be given.

Case study: Off to Market Ltd

Background

John (51) and Jane (48) are married, and own specialist marketing company Off to Market Ltd, as 50:50 owner/directors. Their trading year-end is 5th April, and the business has had a good year, with turnover forecast at £500,000, leading to profit in the region of £350,000.

John and Jane each draw £72,570 from the business. This is drawn as a combination of PAYE and dividend income. £12,570 is drawn as PAYE to use their individual personal allowances, while the balance of £60,000 is drawn as dividend to maximise tax effectiveness on their income.

We spoke with John and Jane, as they were keen to review their retirement planning options, as they have not been funding pensions for some years. They have some historic pension funds from previous employment. During our conversation, it also became apparent that John and Jane were overpaying their £300,000 residential mortgage and had not reviewed their mortgage protection for some time.

While from the outside, it appears that John and Jane have a decent business that provides them with a good level of income, it became apparent that they could structure things in a far more tax-effective manner.

Action

We set up company-funded pensions under ‘wholly and exclusively’ and, using carryforward, Off to Market Ltd made a single contribution of £100,000 for each of them into a pension. We also set up regular company contributions of £2,000 per month to each of them.

Outcome 

Pension contributions are classified as a business expense. This means that their taxable profit of £350,000 will be reduced by 2x £100,000, thus reducing taxable profit to £150,000 and saving them £40,000 in Corporation Tax. There is also no employer/ employee NI on the contributions.

In addition, the £2,000 regular contributions will add to this, and we will review for an ad-hoc lump sum contribution in January 2023 so as to have time to influence next year’s accounts but without overcommitting the business financially or leaving it short of capital.

We have therefore removed capital from the business into their personal holdings in a tax-efficient way.

Action

John and Jane are overpaying their mortgage as they are keen to be mortgage-free. We discussed the reason why – to which they replied: “Hasn’t that always been the goal?” Fact: mortgage rates are historically low, and we therefore switched John and Jane’s mortgage to part repayment/part Interest Only. This lowered their monthly commitment.

Outcome

John and Jane need to draw less income from Off to Market Ltd as they have less monthly cost of debt to service. The amount saved is now in Off to Market Ltd and can be added to their pensions.  This means that instead of paying 32.5% tax on their dividend income to overpay a 2% mortgage loan, they’re investing into pension and saving Corporation Tax at 20% (25% wef 06/04/22).

The Interest Only portion of their mortgage can be repaid either by tax-free cash from their pension or realisation of business value upon sale (10% entrepreneurial rate of tax up to £1M each).

Action

John and Jane have some historic life cover to protect each other for their mortgage amount in the event of death during the term. This is a personal expense. Therefore they are using some of the income withdrawn from their business (i.e. taxed) to fund this.

Outcome

We arranged Relevant Life Plans (RLPs) for each of them to cover an amount equivalent to their mortgage until age 65. The advantage of this is RLPs are also classed as a business expense. This means that Off to Market Ltd pays the premium – which therefore reduces taxable profit as we have made expenses greater. In the event of death, the policy pays out via a Trust, which also means the chosen beneficiary/ies do(es) not have to wait for probate, as Trusts can pay money away on production of a death certificate.

Summary

John and Jane came to us – as many people to do – with a successful, profitable business but with no clear strategy of how to link the business to their desired personal outcome in a tax-efficient manner.

The above strategy reduces the tax liability while providing them with future income as well as protection until the point they would choose to retire.