Tax Planning

The recent news that Inheritance Tax (IHT) receipts jumped by 14% in the 2021/22 financial year was of little surprise, given the IHT tax take has been steadily increasing for some years. The total amount of IHT raked in by the Treasury was £6.1bn in the last financial year, and the Office for Budget Responsibility predict the IHT bill will increase to over £8bn by 2026.

With property prices rising over recent years, coupled with long term increases in the value of other assets, more and more families are finding the estates of their loved ones are subject to IHT. The Nil Rate Band – the amount you can give away before IHT is charged – is frozen until at least 2026, and it is therefore unsurprising that the expected IHT receipts are set to rise.

For those where their estate is likely to exceed the IHT threshold, the good news is that sensible financial planning can help ease the potential tax liability. There are a number of methods to look to mitigate an IHT bill, and one tool available are assets that qualify for Business Property Relief (BPR).

Relief after two years

BPR was introduced in the 1976 Finance Act, and it was created to allow small businesses to be passed down through generations without facing a large IHT bill. The scope of the Act has widened so that it now allows investors of qualifying companies, as well as the business owners themselves, to obtain relief.

The tax relief is granted once an individual holds shares in a qualifying company for a minimum period of two years. The shares need to be held by the individual so that the qualifying assets remain held by them at date of death, and the shares must remain qualifying throughout the holding period.

The two year holding period is certainly more attractive than the requisite timescale needed for gifts made by an individual to escape IHT. Gifts in excess of annual exemptions are known as Potentially Exempt Transfers, and remain in an individual’s estate for a period of seven years.

A further advantage investments that qualify for BPR have over the gifting route is that funds are retained by the individual. If access to the capital is required, then the shares can be sold to raise the necessary funds. Of course, the value of the shares sold will return to the potential estate for the purposes of the IHT calculation.

BPR and AIM shares

To qualify for BPR, shares need to be purchased in unquoted companies, or selected shares listed on the Alternative Investment Market (AIM), which is a UK market primarily used by smaller companies. A wide range of investment managers have produced Discretionary Managed portfolios of shares that they believe will qualify for BPR, either through investments in unquoted companies, or through qualifying shares that are listed on the AIM market.

Where investment managers use unquoted companies, they will often adopt an investment approach whereby funds are allocated in businesses that engage in trades such as renewable energy, property or business lending. These types of strategy often look to generate modest returns over time. Shares in AIM are likely to be more volatile, due to the often unpredictable nature of smaller companies, where business fortunes can often change rapidly.

Whichever approach is adopted, it is important to acknowledge that buying shares in smaller or unquoted companies, is likely to carry additional risks than investing in larger and more well-established companies. In particular, the shares of unquoted companies may be harder to sell.

Political interference

Whilst IHT tax legislation has been stagnant for some time, a risk of any longer term planning is that the tax rules are changed after plans have been put in place. This could potentially have the effect of undoing prudent measures to restrict or eliminate the tax bill.

IHT is an easy tax to collect, as the personal representatives of an estate that is liable to IHT cannot obtain the grant of probate to deal with the estate until the IHT has been paid. Furthermore, beneficiaries of estates that are liable to IHT may be perceived by some quarters as receiving a large inheritance, and potentially makes IHT a soft target when it comes to raising revenue.

Both Tory leadership candidates have mooted that they would review the current IHT regime if they were elected as Prime Minister, and opposition parties have also laid out plans in previous manifestos to reform the way that estates are taxed. Reform of the IHT rules is likely in the longer term, and it is therefore important that plans can adapt to potential changes.

Get the right advice

Given that IHT planning is carried out with longer term objectives in mind, it is important to obtain appropriate advice from experienced financial planners. Investments that qualify for BPR are complex and given the wide choice of options available, it is important that providers and products are selected carefully. At FAS, we are adept at providing clients with comprehensive IHT planning advice as part of our holistic advice service.

If you would like to discuss how to reduce the impact of IHT on your estate with one of our experienced advisers, please get in touch here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

As the old financial adage suggests, you should “never let the tax tail wag the dog”. The rather bizarre phrase is used to remind investors that conventional wisdom dictates that investment returns should be the primary objective of an investment strategy (i.e. “the dog”) with tax considerations being a secondary importance (i.e. “the tail”).

Whilst we wouldn’t argue with the general premise that investment performance is the main driver of investment returns, tax efficiency can often play a larger role in effective planning than many give it credit for. This can be particularly important during periods when investment returns are lower. Let us explain.

The effect of income tax on investment income

Equities dividends and bond and savings interest are all subject to income tax. Dividends are taxed at 8.75% for a basic rate taxpayer, increasing to 33.75% for a higher rate taxpayer and 39.35% for an additional rate taxpayer. Interest is taxed at the individual’s marginal rate of tax (i.e. the tax rate that applies to additional income earned over and above salary or pension income).

If you are investing for income, tax considerations become vitally important. Take the example of an individual who pays higher rate tax overall and holds £10,000 in an equities fund which pays a dividend of 4%, and £10,000 in a fixed interest fund, which pays 4% interest. The gross position is that £800 of income is generated (£400 of dividend and £400 of interest); however, the dividend income is subject to 33.75% tax and the interest is subject to 40% tax, leaving a net income payment (once tax due has been settled) of just £505.

Of course, tax breaks exist to shelter some or all of this income, in the form of individual savings accounts (ISAs), the dividend and personal savings allowances and the starting band for savings. As the above example demonstrates, using these allowances to their fullest extent is vital to maximising income earned.

Don’t waste annual allowances

Capital gains tax (CGT) is charged on the disposal of assets, at a rate of 10% or 20% on investment gains, depending on whether an individual is a basic or higher rate taxpayer. An annual CGT allowance of £12,300 per individual is available, but only within the tax year in question – if you don’t fully use the allowance, you lose it.

We often see clients with portfolios that have been held in the same investments for many years, without changes being made. Whilst we fully support the notion of long-term investment, by making regular changes to the portfolio to use the annual CGT allowances available, you can avoid the gains building up which creates a bigger problem when the investment is eventually sold. Married couples can also rearrange assets so that both allowances are used, which can yield a tax advantage when selling down positions that have been held for many years. Alternatively, ISAs provide exemption from capital gains tax in addition to income tax.

Effective retirement planning

When saving for retirement, tax relief on pension contributions can have a significant impact on the overall investment return achieved. For a basic rate taxpayer, relief on qualifying contributions attracts relief at 20%, whereas higher rate taxpayers can obtain an additional relief of 20% via a self-assessment tax return.

In other words, every £100 invested in a pension will only cost a basic rate taxpayer £80 and a higher rate taxpayer £60. This is a significant immediate return on the contribution, which is the equivalent of many years’ investment growth on the net amount contributed.

Of course, this simple example ignores the fact that only tax free cash is paid out from a pension without any tax deducted, and any income generated by the pension over and above the tax free cash is subject to income tax. However, even considering the net position of tax relief versus tax deducted on pension income payment, using a pension can yield a significant tax advantage.

Venture beyond

Pensions are not the only source of upfront tax relief available. Venture capital trusts (VCT) and enterprise investment schemes (EIS) are two types of investment where income tax relief of 30% is provided on qualifying investments. This is a generous relief, but is only granted on the premise that the underlying investments in smaller and unquoted companies are high risk, and the tax relief granted at least matches the potential for loss on the investment. These investments also need to be held for minimum qualifying periods. For example a VCT needs to be held for a minimum of 5 years to retain the tax relief provided on investment.

Whilst not suitable for all investors, individuals with significant assets, sufficient income, and the necessary tolerance to investment risk, may feel VCTs are worth considering, as a small part of a larger and more diversified investment portfolio.

Planning is key

At FAS, our experienced financial advisers will always consider tax efficiency as a key component in the financial planning process. Whilst investment strategy and selection will be the main drivers of returns achieved over the long term, considering the tax efficiency of investments plays an important role. Why not speak to one of our advisers to gauge how tax efficient your portfolio is, and where improvements can possibly be made.

If you would like to discuss the above with one of our experienced financial planners, please get in touch here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstances.

With warmer weather approaching (well in theory anyway!) and another tax year upon us, now is an ideal time to review your financial arrangements, to take advantage of a new set of tax allowances and consider how hard your money is working for you.

Make best use of your ISA allowance

The Individual Savings Account (ISA) is a mainstay of annual tax planning and for most people, making use of the available ISA allowance is a sensible way forward. The ISA allowance remains at £20,000 for the 2022/2023 tax year (the sixth tax year in succession where a £20,000 limit applies). All income generated within the ISA is exempt from income tax and gains made on assets held in the ISA are also exempt from capital gains tax. These tax advantages make the ISA wrapper valuable to most individuals.

It is important to remember that the ISA is simply a wrapper that protects whatever is held inside the ISA from tax – what assets you hold inside the wrapper will determine the returns achieved. You can either hold cash (within a Cash ISA) or investment funds, individual equities, or bonds (within a Stocks & Shares ISA). Anyone aged 18-39 can hold a Lifetime ISA. This ISA can only be used to fund the purchase of a home for a first-time buyer or be used for retirement savings, and this ISA has an annual limit of £4,000.

Cash certainly isn’t king

Possibly out of habit, many will choose to fund an ISA with cash, either through an instant access account, or a fixed term notice account. Cash has been a poor investment choice for some time, due to low interest rates generally, which have existed for over 12 years; however, with inflation rising, the real return (that is to say the interest earned less the prevailing rate of inflation) is becoming more deeply negative than at any time for a generation.

We all need to hold part of our wealth as cash, as it is only sensible to hold funds that are available to pay for living expenses and any unexpected expenditure. However, holding high balances on cash will almost certainly lead to the value of the savings eroding in real terms, and it would be worthwhile to consider alternative assets for balances held in Cash ISAs.

Dividend tax increase

From 6^th April 2022, the rate of tax paid on dividends paid by shares and equities based funds is increasing by 1.25% across all bands, with the increased tax take being used to support the NHS, health and social care. For basic rate taxpayers, the dividend tax rate will increase from 7.5% to 8.75%, with corresponding increases for higher rate taxpayers (from 32.5% to 33.75%) and additional rate taxpayers (from 38.1% to 39.35%).

The dividend allowance remains in place, whereby the first £2,000 of dividends received by an individual in a tax year are received tax-free. However, with dividend tax rates increasing, those with larger investment portfolios may wish to look at holding investments within an ISA to receive dividend income without tax being deducted.

Pension allowances frozen

Whilst pension annual allowances remain frozen for the 2022/2023 tax year, they remain highly tax-efficient vehicles for retirement savings. The maximum an individual can contribute is £40,000 in a tax year, or 100% of their earnings, whichever is the greater. However, the rules are complex if you are a higher earner, and it is always best to discuss contribution levels with an independent financial adviser.

We argue making sure that pension investments work hard for you is as important as funding the pension with regular contributions. With the new set of allowances available, it may be wise to review existing pension arrangements to ensure that the underlying pension funds are performing well, and undertaking a review of the overall strategy to make sure this continues to meet your needs and objectives.

Gifting

The new tax year heralds a fresh annual gift exemption, which remains stubbornly fixed at £3,000. Sadly, this allowance has not been reviewed for many years, and the available allowance does little to help individuals make significant headway in reducing the value of their potential estates which may be subject to inheritance tax.

Under the gift exemption you can give away assets or cash up to a total of £3,000 in a tax year without it being added to the value of your estate for inheritance tax purposes. If you haven’t used the allowance for the last tax year, this can be carried forward to be used in this tax year. In addition, small gifts of up to £250 can also be made, and separate limits apply to wedding gifts.

There are many options open to those who are concerned their estates will breach the inheritance tax limits, and we recommend seeking independent advice in this area. Here at FAS, we can consider options and solutions from across the market to help clients mitigate their potential inheritance tax liabilities.

Venturing out

Venture capital trusts (VCTs) are another planning tool that may be appropriate for those that expect high income tax liabilities in the new tax year. VCTs invest in smaller and unquoted companies and as a result, these tend to be higher risk investments; however, they do offer valuable tax advantages, with 30% income tax relief provided on qualifying investments that are held for a minimum of five years, and tax free dividends. This is, again, a specialised area, and one where our experienced advisers can provide expert advice.

Summary

The new tax year provides the ideal opportunity to spring clean finances, make use of newly available allowances, and review existing arrangements. If you feel that your finances could benefit from a thorough review, then please speak to our financial planning team.

If you are interested in discussing the above with one of our experienced financial planners, please get in touch here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstances.

With several factors putting the dampeners on income just now, including tax increases due to take effect this year, now is a good time to make sure that you’re making full use of any tax allowances that are available.

One of the services we provide at FAS is to help our clients ensure their income, their investments and their savings are as tax-efficient as possible. Why is this important? Because taxes can become a significant drag on the performance of your assets, and could reduce your overall wealth. Even small amounts can really add up over the years. While tax efficiency should never be the primary consideration of any investment decision, it makes sense to take advantages of any tax allowances you are entitled to.

What current tax issues should you be aware of?

Earlier in 2021 (back in March, to be precise) Chancellor Rishi Sunak announced that all income tax thresholds would be frozen at current levels until 2026. This was confirmed in the October Budget announcement. This means:

• The amount of money that people can earn tax-free stays at £12,570.
• The ‘basic rate’ tax band for earnings of between £12,571 to £50,270 remains at 20%
• Earnings of £50,271 to £150,000 will be taxed at the ‘higher rate’ of 40%
• Anything over £150,000 will be taxed at the ‘additional rate’ of 45%

Of course, while a tax ‘freeze’ doesn’t sound too worrisome on its own, the government is counting on it earning them more revenue, as earnings rising with inflation will push more people over the thresholds, thereby leading them to pay more in tax. As a reminder, consumer price inflation in Britain reached 4.6% in November, its highest level in nearly a decade, thanks in part to soaring energy prices pushing up household bills. We expect inflation to ease later in the year and into 2023, but even so, the squeeze from higher costs and an increased tax burden is likely to be felt by many this year.

National Insurance is on the rise

One tax that is on the rise is National Insurance. From April 2022, employees, employers and the self-employed will all pay an extra 1.25p in the pound in National Insurance. This move was announced in September, and the additional income generated will be used to help fund health and social care costs. The increase is expected to cost an employee earning £20,000 an additional £130 each year, whereas someone earning £50,000 can expect their National Insurance contributions to increase by more than £500. From April 2023, National Insurance will return to its current rates, but the extra tax will stay in place – albeit collected under the newly titled ‘Health and Social Care Levy’. However, unlike with National Insurance contributions, the new levy will also be paid by state pensioners who are still working.

Overall, with income tax thresholds frozen, higher inflation and National Insurance contributions hiked up, now really is a good time to make sure your personal finances are as tax-efficient as they could be. The best place to start is to make use of existing tax allowances.

Individual Savings Account (ISA) Allowance

Every UK taxpayer aged 18 or older is entitled to a £20,000 annual ISA allowance, and you do not have to pay any tax on your income generated or gains made within the ISA. There are four types of ISA currently available:

• Cash ISA
• Stocks and Shares ISA
• Innovative Finance ISA
• Lifetime ISA (which has an annual limit of £4,000)

You can save up to the full annual allowance in one type of ISA or split the allowance between them. However, the Lifetime ISA has an annual investment limit of £4,000. As a reminder, the tax year runs from 6 April to 5 April the following year, and you can’t carry any unused allowance over to a new tax year. The ISA allowance resets back to the annual limit on 6 April. ISAs are one of the simplest, most flexible, and most popular ways to invest tax-efficiently, and they really are a great starting point for investors and savers of all sizes.

Personal Savings Allowance

The Personal Savings Allowance (PSA) was introduced back in 2016, and means that most UK savers are no longer required to pay tax on their savings income. For example:

• Basic rate taxpayers can receive up to £1,000 a year in savings income tax-free.
• Higher rate taxpayers have an annual PSA of £500 before they start paying tax on their savings income.
• Additional rate taxpayers do not receive a PSA and must pay tax on any savings income they receive on savings outside of their Stocks and Shares ISA or Cash ISA.

The Starting Rate Band

One tax allowance that gets relatively little attention is the Starting Rate Band for savings. This is a tax band which applies to savings income that falls within certain limits. If any of your taxable savings income falls within the first £5,000 of the basic rate band, you will not be required to pay any tax on that taxable savings income, as the starting rate for savings income is zero.

However, the savings band is not available if your non-savings income (excluding dividend income) exceeds the sum of the personal allowance (and blind person’s allowance, if claimed) and the savings band. There’s no question that the Starting Rate Band isn’t widely known about, and is perhaps unnecessarily complicated. This is why it’s worth getting your financial situation, including your savings and investments checked by us, so we can determine which allowances apply.

Dividend Allowance

If you own shares in a company, you can earn money from those shares in two ways – either from any dividend payments the company makes, or by selling the shares for a profit. When it comes to dividends, all UK taxpayers are entitled to an annual tax-free dividend allowance of £2,000. However, if the dividends you receive are above this amount – and the shares are held outside of an ISA wrapper – you will be liable to pay tax at a rate of 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers, and 38.1% for additional rate taxpayers.

Dividend tax rates are increasing

However, from 6 April 2022, dividend tax rates will be increasing by 1.25%. The new rates will apply to dividends taken as income in the 2022-23 tax year. In practice, this means that those who pay tax on dividend income through their tax code will see their dividend tax bill increase from next tax year. Those who pay tax via self assessment will have until 31 January 2024 to pay the increased amount of tax on next year’s dividend income.

It’s likely that many people will be left with higher tax bills as a result of this increase, but if this applies to you, there are some options on how to minimise the tax burden. For example:

• Make full use of your ISA allowances: the simplest way to reduce the amount of dividend tax is to hold dividend paying investments within an ISA.
• Increase your pension contributions: Dividends paid on investments held in your pension are also tax free, so maximising your pension annual allowance each year could be another tax-efficient way of saving for longer-term goals.

• Invest as a couple: If you’re married or in a civil partnership, and your partner pays tax at a lower rate, you could potentially reduce your overall dividend tax bill by holding some investments in your partner’s name.

With a bit of tax planning, it’s possible to minimise the cost implications of freezes, tax hikes and higher inflation. If you talk to us, we can review your financial situation, along with your savings and investments, to ensure they are as tax-efficient as possible. There’s nothing to lose from having a tax tune-up, and you could save a considerable amount in the long run.

If you are interested in discussing your tax situation with one of our experienced financial planners at FAS, please get in touch here.

This content is for information purposes only. It does not constitute tax planning or financial advice.

According to probate and estate specialists an estimated £5.5 trillion will be changing hands – transferred between different generations – in the next three decades, either through inheritance or gifting. But with people living longer, and needing greater assistance with healthcare and daily living, the transition can be complicated. That’s why more people need to start thinking about how to cascade ‘intergenerational wealth’ down to children or grandchildren.

What is intergenerational wealth planning?

Intergenerational wealth planning is simply about taking steps to choose when and how you want to pass on your wealth to your children or grandchildren. Whether you are planning to leave behind a life-changing inheritance, or just enough to help your loved ones feel slightly better off, it’s important to understand the impact that inheritance tax (IHT) could have on the value of your estate. Every year, thousands of people pass away and leave behind an IHT bill for loved ones to deal with, drastically reducing the value of their inheritance. With the right planning in place, you can pass on more of your wealth, reduce or even eliminate any IHT due on your estate, and see your loved ones put the money to good use while you’re still alive.

What are the current inheritance tax thresholds?

As a reminder, everyone in the UK aged 18 or over has a personal IHT allowance known as the nil-rate band. This nil-rate band currently stands at £325,000. If the value of an estate (money, property, and possessions) when a person dies is below this amount, there is no IHT to pay. However, if the estate is valued above £325,000, the beneficiaries of the estate will be required to pay IHT at a rate of 40% on the amount over the threshold.

However, if you pass your home on to your children or grandchildren, your estate can also claim the residence nil-rate band, which is an additional IHT allowance that can increase the value of your estate excluded from IHT to £500,000. This allowance is only available provided you leave the home to your direct descendants, and the allowance is reduced if the total value of the estate is more than £2 million.

Making gifts

Making gifts out of your wealth before your death is an excellent way to reduce the inheritance tax on your estate, but it’s important to understand the rules around making gifts before you start giving it all away. HMRC gives everyone an annual gifting allowance of £3,000 – called the ‘annual exemption’. You can carry over the £3,000 annual exemption to the following year if you don’t use it, but only for one year.

You can also make small gifts (no more than £250) to as many different people as you wish, as long as you haven’t given them a gift as part of your £3,000 annual exemption. Wedding gifts are also IHT-exempt up to certain limits (up to £5,000 for your child, £2,500 for your grandchild or great-grandchild, and up to £1,000 for anyone else). Any gifts made between spouses or civil partners are completely IHT-free.

Potentially exempt transfers

Making gifts of larger amounts than £3,000 is permissible, but it does run the risk of triggering an IHT bill – particularly for people who are elderly or in poor health. This is because for a gift to become completely free of IHT, the individual making the gift must survive for at least seven years from the date the gift was made. Lifetime gifts of this type are known as ‘potentially exempt transfers’.

The IHT bill due on a potentially exempt transfer reduces on a sliding scale (also referred to as ‘taper relief’) for each full year the giver survives. So, if the giver dies within the first three years of the gift being made, the gift will be liable to the full 40% IHT charge – paid by the receiver of the gift. The IHT charge on a potentially exempt transfer falls by a further 8% for each year the giver survives (so charged at 32% if death occurs between years 3-4, charged at 24% if between 4-5 years, and so on), until seven years have passed, when the IHT bill reaches 0% and the gift becomes fully exempt.

Inter vivos policies

In cases where a large gift has been made, or could be made in the future, an inter vivos life insurance policy can protect against the possibility of a potentially exempt transfer failing, and falling back into an individual’s estate. Roughly translated, inter vivos means ‘between the living’, and it can be used to pay a lump sum in the event of a person’s death during a specific timeframe. The giver can arrange for the policy to have a fixed seven-year term, with the amount of cover it provides reducing to match the reduced IHT liability as taper relief starts to take effect. Although the cover reduces, the premium to pay for this type of insurance policy typically remains fixed for the whole seven years.

However, before choosing to set up a gift inter vivos policy, it is important to determine whether the available taper relief will apply in your own circumstances. This is because any lifetime gifts made will first be allocated against your nil-rate band when the gift is made. It is also worth noting that taper relief is applied to the rate of IHT to pay, not to the value of the gift. So, if a gift falls within the nil-rate band, the rate of tax is zero and therefore taper relief has no effect.

Summary

Over the course of this year, we’ve had more clients talking to us about estate planning and ways to reduce an IHT bill for their loved ones. Fortunately, there are lots of intergenerational wealth planning options available to clients looking to pass on more of their wealth to their children and grandchildren, and who would much prefer to see their wealth being enjoyed during their lifetime.

If you are interested in discussing IHT or your estate with one of the experienced financial planners at FAS, please get in touch here.

This content is for information purposes only. It does not constitute tax planning or financial advice.

If you are thinking about estate planning and passing assets to different generations, establishing a trust is one way of ensuring your wishes are carried out in a tax-efficient manner.

According to the latest figures published by HMRC, Inheritance Tax was one of the few revenue-generating taxes that increased in the 2020-2021 tax year. Inheritance Tax receipts increased to more than £5.3 billion in 2020/2021 compared to the previous year (although below their 2018/2019 peak of £5.4 billion). According to HMRC, this increase is likely in part due to the higher number of wealth transfers that took place during this tax year, and the higher than the usual number of deaths, in part due to COVID-19.

Given the higher tax take and increasing asset values, Inheritance Tax planning is becoming relevant to more and more families. When it comes to Inheritance Tax planning, there are a number of options, which are all worthy of consideration in most circumstances. Each has positives and drawbacks, which is the primary reason why taking independent advice tailored to an individual’s precise situations, needs and objectives, is particularly important in this area. Establishing a trust during an individual’s lifetime is one option that is often a suitable solution.

The history of trusts

Trusts are one of the older forms of English financial and property law, having started life in medieval England, around the 12th century. Historians will tell you that when knights went off to war, a trust was required to implement the stated will of the knight, while at the same time granting power to the person chosen to manage the knight’s estate in his absence.

Common uses for trusts today

Today, trusts are used either to pass assets during an individual’s lifetime or to help determine what happens to someone’s property or assets in the event of their death. Trust arrangements can be particularly useful where large sums of money are involved, or where the family relationships are complicated, for example after divorce or remarriage, or where children and stepchildren are involved. And above all, trusts place controls over who can receive the assets or property, and when they become eligible to receive them.

Lifetime Trusts are useful when individuals wish to ringfence funds for future generations or to make a gift to family members who maybe cannot receive funds due to their age (i.e. if they are under the age of 18). A common use of a trust is to set aside funds to cover university costs or provide a house deposit for younger relatives.

An important concept to consider is that placing assets into a trust, with the intention of being effective for Inheritance Tax purposes, will mean that those funds will be out of reach to the person making the gift, who is known in law as the “settlor”. This means that trusts tend to be inflexible and careful planning is needed to ensure that funds gifted into a trust will not be needed by the settlor in the future. In addition, the monies placed into a trust will not fully leave the settlor’s potential estate for seven years after the date the gift has been made.

When gifts into a trust are made during an individual’s lifetime, there are different types of trust arrangements that can be used. A Bare Trust is a simple form of trust that is often used for beneficiaries (i.e. the person or people nominated to receive funds from the trust) who are under the age of 18. There is no need for decisions to be reached as to who receives funds from the trust, as the beneficiary is established at the outset and once the beneficiary reaches 18, they are automatically entitled to the funds under law.

Discretionary Trusts are more flexible, in that the trust wording establishes a “pool” of potential beneficiaries. This is often all members of the settlor’s immediate family, including grandchildren and great-grandchildren, but excluding the settlor and spouse. This type of arrangement doesn’t specify who receives the trust fund and allows the ultimate destination of the funds to be decided at a later date. This flexibility comes at a price, however, as this type of arrangement is potentially subject to Inheritance Tax charges every 10 years.

Trustees’ duties

In both cases, trustees are appointed to administer the trust. This is often the settlor but other family members, trusted friends or professionals, such as solicitors, can also be appointed. Ideally, there will be at least two trustees, with a maximum of four being appointed. Trustees must ensure the trust is administered correctly, decide how the trust fund is invested, ensure the correct amount of tax is paid and submissions to HMRC are completed, and in the case of a Discretionary Trust, make decisions as to when sums of money are paid to beneficiaries and how much is paid.

The Trustee Act 2000 sets out comprehensive guidance as to how trustees need to act, when they need to take advice from professionals, and how they reach their decisions. Being a trustee is an important role that carries significant responsibility, and therefore careful thought is needed as to who is appointed as trustee when a trust is set up.

Trusts have their limitations

While setting up a trust gives you much greater control in determining where your assets will eventually go, they do have some limitations. For instance, they can often carry a higher burden of tax and greater levels of administration.

In the right circumstances, however, Lifetime Trusts can be an efficient way to plan ahead, by ensuring funds are set aside for future generations and potentially reducing the Inheritance Tax burden on an individual’s estate.

But setting up a trust can be complicated, so it’s always worth talking to an experienced professional who can talk you through the process in determining which type of trust is right for you and your family.

If you are interested in discussing estate planning arrangements with one of our experienced financial planners at FAS, please get in touch here.

This content is for information purposes only. It does not constitute investment advice or financial advice.

You don’t know what you’ve got till it’s gone, and investors would be wise to make use of their annual capital gains tax allowances while they’re still available.

Making a good return on investments is one of the reasons why people come to us for help with their finances. But while choosing the right investments is an essential part of the process, it is just as important to make use of any tax allowances that are available. One particular allowance worth taking advantage of is the capital gains tax annual allowance.

What is capital gains tax?

Capital gains tax (CGT) is the tax that can be charged on the profit or gain made when selling, gifting, transferring, exchanging or disposing of an asset. CGT doesn’t apply in all cases, such as selling your home or any personal belongings worth less than £6,000, which are not subject to CGT. However, ‘chargeable assets’ – which includes shares, investment funds, and second properties – that generate a capital gain when they are sold will generally be liable for CGT.

What’s the CGT annual allowance?

When selling investments, basic rate taxpayers will be required to pay CGT at a rate of 10% on gains made on chargeable assets, and higher and additional rate taxpayers can expect to pay 20%. But the good news is that everyone has their own personal CGT allowance available every tax year (6 April to 5 April), which can be used to reduce or eliminate a CGT liability. For the current tax year, the CGT annual allowance is £12,300. This means you can make a profit or capital gain on chargeable assets up to that amount before any CGT is due, and you will then pay CGT at your tax rate on the remaining gain over that amount. Of course, if you have made several gains over the course of the tax year, the CGT liability will be calculated based on the total gain made in the year, with any losses crystallised offsetting the gains made.

How can people end up with a surprise CGT bill?

Although current CGT rates are historically low (CGT was as high as 40% in recent years) and most individuals will never pay it, it does catch investors out from time to time. In our role as financial advisers, we are often asked by new clients to review their existing investment portfolio arrangements.

Where investments have been held for many years, we often discover portfolios laden with investments that carry significant capital gains, that have accrued over a long period of time. Often investors haven’t made use of the CGT annual allowance in past years, and with CGT, it is a case of using the allowance each year or losing it, as unused allowances cannot be carried forward to be used in future years.

So, one of the first things we do is to make sure that the client’s investments are being managed wisely, and with due consideration to the tax implications that come with it. Careful management at key times in the tax year mean we can limit the gains payable on an investment portfolio, ensuring that gains are realised each year to use up the CGT allowance. In most cases, carrying out this practice of limiting the gains payable on an investment portfolio can have a significant positive long-term impact on the total return on the investment.

Will CGT rules be changing soon?

Towards the end of last year, Chancellor Rishi Sunak commissioned the Office of Tax Simplification to look at simplifying the CGT rules, and also asked it to consider specific areas where the existing rules distort people’s behaviour. In response, the Office of Tax Simplification published a report that recommended the annual CGT exemption should be reduced from the current level of £12,300 to between £2,000 and £4,000. Their report also suggested realigning CGT rates to income tax, which would take them from 10% and 20% on investments (for basic and higher rate taxpayers) to 20% and 40% respectively.

Should these proposals be adopted, this would mean lots of people would suddenly face considerable CGT bills. For example, under the new proposals, a higher rate taxpayer who made a capital gain of £12,300 (which is currently exempt from CGT) would find themselves stuck with a CGT bill of somewhere between £3,320 and £4,120. That’s clearly a significant tax hike for anyone to pay.

At present, there’s no indication that the recommendations published by the Office of Tax Simplification will be implemented. But given the unprecedented levels of government support offered during the pandemic, there is a good chance that changes to CGT will arrive in some form. For now though, it’s a good idea to take a look at your investment portfolio and make sure that your annual CGT exemption is being used to the fullest extent.

If you are interested in having a conversation about your investment portfolio with one of our experienced financial planners at FAS, please get in touch here.

This content is for information purposes only. It does not constitute investment advice or financial advice. 

A private school education is often considered as an investment in a child’s (or grandchild’s) future. With the right planning in place, and by taking advantage of available tax incentives, it is an investment that could well be within your reach.

Parents – and grandparents – always want the best for their children or grandchildren, and for many this means choosing to give them a private school education. The evidence suggests that students from private schools here in the UK outperform national and global academic averages, and that most children who attend private school go on to get a university education.

However, attending a private school is a privilege that doesn’t come cheap, which can often put parents under increased financial pressure. A Lloyds Banking study from a few years ago found that four out of ten private school parents had struggled to meet school fee payment deadlines and six out of ten parents were worried they might not be able to afford fees in the future.

How much does it cost to send a child to a private school?

According to the 2021 Annual Report published by the Independent Schools Council (ISC), the average fee for a child to attend a private day school is currently £15,191 per annum, which works out at £5,064 per school term. Naturally, day school fees vary depending on where the school is located, average term fees are more than £6,000 in London and £3,700 in the Northwest of England. As you would expect, it costs considerably more to pay for a child to attend boarding school, where the ISC estimates the average cost per term stands at £12,000.

Are private school fees going up?

Afraid so. According to the ISC, UK school fees have increased at an annualised rate of 3.9% since 2010, which is well above inflation. However, while COVID-19 has had a considerable impact on every school, and private schools are no exception, the latest ISC report suggests private schools have only increased their fees by an average of 1.1% in the past year – with average day school fees rising by just 0.9%.

But the school fees themselves are really just the beginning when it comes to counting the costs of a child’s education. You will also need to think about the costs of school uniforms, trips, sports activities (and equipment), and music lessons. When all those costs are factored in, parents might be looking at total costs of between £150,000 and £200,000 per child who attends a private day school, and maybe double that for a boarding school.

Investing to pay for school fees – the mathematical journey

Of course, when it comes to paying for school fees, the sooner you put a plan together – and start setting money aside – the better. If you plan ahead, you can give yourself five to ten years, or perhaps even longer, to build up a savings pot that could help to fund school fees when they become due.

One of the most important aspects of creating a plan to pay for school fees is to calculate the costs of private education, including some of those ‘miscellaneous’ costs that it’s easy to forget to include, and the education time horizon (the number of years the child will be attending the school). Once this is known it becomes considerably easier to create a strategy that will take advantage of the power of compounding, and generate enough investment growth from start to finish.

Tax-efficient school fee savings strategies

Given that interest rates on cash savings accounts remain so low, investing within a tax-efficient savings vehicle is likely to be the best starting point when it comes to saving for school fees – especially bearing in mind you will have to withdraw a large sum from the investment pot every year once the school terms start.

With a Stocks & Shares ISA, individuals can invest up to £20,000 each year, or £40,000 per couple. This would be a good way of constructing a diversified portfolio that contains a broad range of assets and is designed to achieve growth over the targeted investment horizon.

Tax-efficient strategies for grandparents

We are also seeing more grandparents talking to us about investing for school fees for their grandchildren, out of their excess after-tax retirement income. This is a good way to give children a great education while also making sure the parents don’t have the financial burden.

Setting up a discretionary trust can be a tax-efficient way for grandparents to pay the cost of private education. Once the trust has been set up, the grandparents can make a series of regular ‘gifts’ into the trust, and this money is invested according to the arrangements specified by the grandparents.

A valuable benefit of setting up a discretionary trust to pay for grandchildren’s school fees is that the gifts made into the trust should be declared outside of the estate for inheritance tax purposes, provided the donor lives for a further seven years after a gift. Also, annual gifts of up to £3,000 per grandparent are deemed instantly exempt from inheritance tax, as long as this annual exemption has not already been used.

Talk to us about school fees planning 

If you are a parent or grandparent who wants to send their children or grandchildren to a private school, the best way to pay for it is to start the financial planning process as early as you can. When you’re ready, we can help you by giving you a realistic assessment of the costs involved, and to put together a tailored plan to help you reach your savings goals.

If you are interested in discussing school fee arrangements with one of our experienced financial planners at FAS, please get in touch here.

This content is for information purposes only and does not constitute investment or financial advice. Tax rules are subject to change, and tax benefits depend on your personal tax position. 

If you are thinking about gifting a large sum of money to loved ones during your lifetime, it is important to realise that the gifts you make could still carry an inheritance tax liability after your death. So, you might want to consider arranging a life assurance policy that will eliminate the risk of leaving behind an unexpected inheritance tax bill.

When Chancellor of the Exchequer Rishi Sunak announced in his March Budget that inheritance tax thresholds would be frozen until 2026, one of the consequences was that inheritance tax and estate planning returned to the top of the agenda for lots of people. We have seen an increase in the number of clients talking to us about the potential inheritance tax liability that could be due on the value of their estate, and we have been pleased to be able to discuss the different estate planning strategies with them – as there are lots of different options available during a person’s lifetime.

What are the current inheritance tax thresholds?

As a reminder, everyone in the UK aged 18 or over has a personal inheritance tax allowance known as the nil-rate band. This nil-rate band currently stands at £325,000. If the value of a person’s estate (money, property and possessions) when they die is below this amount, then there is no inheritance tax to pay. However, if their estate is valued above £325,000, the beneficiaries of the estate will be required to pay inheritance tax at a rate of 40% on the amount over the threshold.

It is also worth noting that if you give your home away to your children or grandchildren in your Will, your estate can also claim the residence nil-rate band, which is another inheritance tax allowance that can increase the value of your estate excluded from inheritance tax to £500,000. However, this allowance is only available provided you leave the home to your direct descendants, and the allowance is reduced if the total value of the estate is more than £2 million.

What are the current rules on gifting?

Gifting money to your family during your lifetime is one of the most popular ways of attempting to reduce an inheritance tax liability. However, in order for a gift to become completely free of an inheritance tax liability, the person who gave the gift must survive for at least seven years from the date when the gift was made. Lifetime gifts of this type are known as potentially exempt transfers. Also known as the ‘seven-year rule’, the inheritance tax bill due on a potentially exempt transfer reduces on a sliding scale for each full year the person who made the gift survives (also commonly referred to as ‘taper relief’); however, no taper relief is available in the first three years after making a gift.

How does this work in practice? Let’s use an example. Frederick gives £200,000 to his daughter. It is a potential exempt transfer, so should Frederick die within three years of having made the gift, Frederick’s daughter would be required to pay inheritance tax at 40% on the value of the gift (£80,000). In year four, the inheritance tax rate drops to 32% (a bill of £64,000), it falls to 24% in year five (a bill of £48,000), 16% (£32,000) in year six, and 8% (£16,000) in the seventh year. After the full seven years have passed, Frederick’s daughter will have no inheritance tax bill to pay, but as those amounts demonstrate, the inheritance tax due on the gift can prove very costly depending on Frederick’s health during those seven years.

Fortunately, there is a way to remove the risk involved with making large gifts and to make sure that the recipient of the gift, like Frederick’s daughter, is not left facing a significant tax bill.

Using a life assurance policy to plan ahead for an inheritance tax bill

One of the most cost-effective ways of avoiding an inheritance tax bill is to set up a life assurance policy that pays out if you were to die, with a sum insured that covers the potential tax liability. In cases where a large gift has been made, or could be made in the future, a ‘gift inter vivos’ policy can be created. Roughly translated, inter vivos means ‘between the living’, and it can be used to pay a lump sum paid in the event of a person’s death during a specific timeframe.

Most users of a gift inter vivos policy arrange for the policy to have a fixed seven-year term, with the amount of cover it provides reducing to match the reduced inheritance tax liability as taper relief starts to take effect. Although the cover reduces, the premium you can expect to pay for this type of assurance policy typically remains fixed for the whole seven years.

Considering the nil-rate band

However, before choosing to set up a gift inter vivos policy, it is important to determine whether the available taper relief will apply in your own particular circumstances. This is because any lifetime gifts made will first be allocated against your nil-rate band when the gift is made. This means that the initial impact of any gift you make, as well as any subsequent gifts, is that your nil-rate band will itself be reduced during those seven years, potentially increasing the inheritance tax liability due on the value of the estate during this time. It is also worth noting that taper relief is applied to the rate of inheritance tax, not to the value of the gift. So, if a gift falls within the nil-rate band, the rate of tax is zero and therefore, taper relief has no effect.

Writing the assurance policy into trust

When we discuss setting up a gift inter vivos policy, we usually recommend that the policy itself is placed into trust. This ensures that the proceeds of a claim made on the policy are not included in the policyholder’s estate, which would otherwise increase the inheritance tax liability. Arranging the policy into trust also means the policy does not get caught up in the probate process, meaning beneficiaries should be able to get the policy proceeds quickly to settle the inheritance tax bill.

Summary

One of the most attractive things about gifting money to loved ones – perhaps to help with a house deposit or university fees – is that you’re able to play a part in their future now rather than waiting till you die. But the rules around gifting, especially calculating the liability on lifetime gifts, can be a headache. Using a life assurance policy designed to cover the costs of that liability can really make a difference and is a very effective way of removing the uncertainty that comes with making large gifts.

With more families likely to be caught in the inheritance tax trap – thanks to the frozen inheritance tax allowances – we expect such policies will prove increasingly popular with our clients.

If you are interested in discussing estate planning arrangements or your tax situation with one of our experienced financial planners at FAS, please get in touch here.

This content is for information purposes only. It does not constitute investment advice or financial advice.

People often think that passing on large sums of wealth to loved ones is only possible after their death. But making regular financial gifts during your lifetime can be a highly tax-efficient way to reduce the value of your taxable estate, and give your loved ones a helping hand when they most need it.

Now that life is beginning to return to ‘normal’, at FAS we have started to see an increase in the number of clients who want to talk to us about planning for their future, making changes to their personal finances, and doing more to help their loved ones. One area that has been discussed with several clients is how to use their surplus income – in other words, money left over after all of their regular financial commitments have been met – in ways that benefit their family, friends, or even charities. Clients are keen to put that money to good use now, rather than waiting until it forms part of someone’s inheritance.

Gifting out of surplus income

Lots of people, particularly those in retirement with healthy pensions and other sources of income, such as rent on additional properties, may find themselves with income that’s surplus to requirements after all of their outgoings have been paid.

If you regularly have an income left over, it could be in your best interests to consider using this money to provide a regular financial gift. Not only does this allow you to make a financial contribution to an individual that could really benefit, but it is also a well-recognised and completely legal way of reducing the potential inheritance tax liability that will one day be calculated on the value of your estate. That is because whereas most gifts of large amounts can still be liable for inheritance tax, a gift made from surplus income is immediately outside of your estate for inheritance tax purposes.

A gift made from surplus income is not liable for inheritance tax

Here is why. In most instances, making gifts to friends or family of amounts of more than £3,000 runs the risk of incurring an inheritance tax bill. HMRC calls such gifts ‘potentially exempt transfers’ and applies the ‘seven-year rule’ when determining the amount of inheritance tax the gift can become liable for.

If the person making the gift lives for at least seven years after the gift is made, there is no inheritance tax to be paid by the person receiving the gift. However, if the person dies within the first three years of the gift being made, the gift could be liable to the full 40% inheritance tax charge, which is payable by the recipient of the gift. For gifts made between three and seven years before death, HMRC reduces the IHT charge for each full year the person who made the gift survives (known as ‘taper relief’).

However, one of the biggest advantages of making a gift out of surplus income is that there is no seven-year clock for the giver or the receiver of the gift to keep an eye on. But that is only as long as the Executors of the person’s estate can prove that the gift was indeed made from surplus income.

What are the rules around gifts?

To qualify as a gift made from surplus income in HMRC’s eyes, and therefore exempt from inheritance tax calculations, the following three conditions will need to be met:

• There should be evidence that clearly shows the gift was intended to be made regularly and was part of the giver’s normal expenditure – a good example of this would be an annual amount of £3,600 gross paid into a grandchild’s pension.
• The gift was made out of the post-tax income and was not the proceeds of a transfer of capital assets. Common sources of post-tax income used for gifts can include pension income, rent from property, interest and dividends, or even employment earnings.
• The giver of the gift must still be left with enough of an income to maintain their present standard of living, without having to resort to using capital to meet their needs.

What kinds of gifts can be made?

As well as helping clients to set up regular cash gifts, we often talk to people who choose to use their surplus income to pay for school fees, to make regular payments into an Individual Savings Account (ISA) or Junior ISA, or even to fund pension contributions for children or grandchildren over several years. At FAS, we can help you to determine the level of surplus income available to you, as well as providing you with helpful advice on the best way to put that surplus income to work.

Make sure you keep records of any gifts you make

Whatever gifting option you choose, it is essential to keep financial records that can be used to prove your intentions after your death. Such records will be required by the Executors of your Estate to claim the ‘gift exemption’ from HMRC when it comes to valuing your estate. One of the easiest ways to do this is to write a letter to the person (or people) that you will be making gifts to, clearly stating your intentions and establishing a pattern of gifts for the future.

What happens after your death?

After your death, the Executors of your estate will be expected to demonstrate that the gift was intended to be both a regular occurrence and also a part of your normal expenditure. They will be required to complete Form IHT403, and provide details of sources of income (such as pension, rental, or investment income) and expenditure (such as household bills, holidays, and entertaining) for the years that any gifts from surplus income were made. If you intend to make regular gifts, it is a good idea to talk to us about dealing with the necessary paperwork on an annual basis that will make the estate handling process much easier when the time comes.

Summary

Rather than worrying about leaving an inheritance tax liability, making regular gifts out of surplus income can be an extremely effective way to reduce the taxable value of your estate. It is also a great way to do something meaningful for your loved ones, as you get to see them enjoy the benefits of their inheritance right now, rather than only after you have gone.

If you are interested in discussing estate planning arrangements or your tax situation with one of our experienced financial planners at FAS, please get in touch here.

This content is for information purposes only. It does not constitute investment advice or financial advice.