Tax-efficient investing

Legitimate ways for higher earners to reduce a tax bill

Without a carefully developed tax planning strategy, higher-rate taxpayers run the risk of missing out on key tax benefits and paying more in taxes than necessary. A higher tax liability can diminish the value of your investment earnings over the long term.

To start with, it’s important to look at ways you might be able to minimise tax along the way. In other words, reduce tax where you can, but don’t allow it to be your sole driver when making investing decisions or steering you away from achieving your core financial goals.

Even though the Government continues to reduce the number of tax avoidance schemes available, there are still legitimate ways for higher earners to reduce their tax bill. The more tax wrappers and annual allowances you use, the more money you’ll be able to save and invest for your future.

Where can you turn if you want to invest tax-efficiently?

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 from capital gains, dividend income and interest.

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, sheltering a significant sum from tax.

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 £4,368, 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.

Pensions

Contributing into a pension is another tax-efficient strategy that those on higher incomes may wish to consider. Not only are capital gains and Income Tax-free within pension accounts, but when you contribute into a pension, the Government provide 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 2019/2020, the annual pension contribution limit for tax relief purposes is 100% of your salary or £40,000, whichever is lower. If you are considered to be a high-income individual and have an adjusted income of more than £150,000 per year, and a threshold income of more than £110,000 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. If you want to carry forward your pension allowance, there are two requirements you need to meet.

Firstly, you had a pension in each tax year you wish to carry forward from, regardless of whether or not you actually made a contribution – the State Pension cannot be included. Secondly, you have earnings in the current tax year of at least the total amount you are contributing, although this does not apply to contributions your employer makes.

While contributing into a pension can be a very effective strategy due to the generous tax breaks on offer, the downside to pensions is that money cannot be accessed until age 55, and at this age you can only take 25% of your pension pot tax-free. Higher-rate taxpayers should also be aware of the Lifetime Allowance – the total amount of money you can build up in your pension accounts while still enjoying the full tax benefits.

Venture capital schemes

The purpose of the venture capital schemes is to provide funding for companies that are in the relatively early stage of the business cycle. Experienced investors that are comfortable with high levels of risk may also want to consider venture capital schemes.

These 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 into 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 (SEIS)

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.

Tax-efficient investing strategies to consider

Whether it is through sophisticated tax planning, pension planning or investment advice, we can help you to take a close look at your financial situation and recommend solutions tailored entirely to your needs. To discuss your requirements, please contact Reeves Financial on 01403 333145 or email areeves@reevesfinancial.co.uk.

INFORMATION IS BASED ON OUR CURRENT UNDERSTANDING OF TAXATION LEGISLATION AND REGULATIONS. ANY LEVELS AND BASES OF, AND RELIEFS FROM, TAXATION ARE SUBJECT TO CHANGE.

TAX RULES ARE COMPLICATED, SO YOU SHOULD ALWAYS OBTAIN PROFESSIONAL ADVICE.

A PENSION IS A LONG-TERM INVESTMENT.

PENSIONS ARE NOT NORMALLY ACCESSIBLE UNTIL AGE 55. YOUR PENSION INCOME COULD ALSO BE AFFECTED BY INTEREST RATES AT THE TIME YOU TAKE YOUR BENEFITS. THE TAX IMPLICATIONS OF PENSION WITHDRAWALS WILL BE BASED ON YOUR INDIVIDUAL CIRCUMSTANCES, TAX LEGISLATION AND REGULATION, WHICH ARE SUBJECT TO CHANGE IN THE FUTURE.

THE TAX BENEFITS RELATING TO ISA INVESTMENTS MAY NOT BE MAINTAINED.

THE VALUE OF INVESTMENTS AND INCOME FROM THEM MAY GO DOWN. YOU MAY NOT GET BACK THE ORIGINAL AMOUNT INVESTED.

PAST PERFORMANCE IS NOT A RELIABLE INDICATOR OF FUTURE PERFORMANCE.

This is for your general information and use only and is not intended to address your particular requirements. The content should not be relied upon in its entirety and shall not be deemed to be, or constitute, advice. Although endeavours have been made to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No individual or company should act upon such information without receiving appropriate professional advice after a thorough examination of their particular situation. For Reeves Financial, published by Goldmine Media Limited, Basepoint Innovation Centre, 110 Butterfield, Great Marlings, Luton, Bedfordshire LU2 8DL Content copyright protected by Goldmine Media Limited 2017. Unauthorised duplication or distribution is strictly forbidden.