How To Reduce Your Tax Bill! (An easy to read guide for different situations)


 

Many people are now rushing to complete their Self Assessment and pay their tax liability by 31 January. Whilst paying tax may seem like a burden to most, it has to be done to ensure public services get the funding it needs. But to help you pay the correct amount of tax and not pay any more than you should do (unlike many), here is a list of ways to legally reduce your tax bill.
Whilst some of the ways listed below can be implemented quickly and help you save tax immediately, others are more longer term and you can think about doing them for the next tax year and beyond. Also read an article I wrote earlier on how you can earn £45,990 a year tax free.

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For Everyone:

  • Make full use of your ISA Allowance – This is at the top of the list and rightly so, it is the greatest income tax shield out there. Any income produced in an ISA is not taxable and there is no capital gains to pay when you sell any investments.
  • Make full use of your pension contributions – Make full use of your pension allowance (whether you use a company pension scheme or a SIPP) is one of the most efficient ways to save for retirement. The new annual allowance and carry forward rules add to a pensions appeal as they give greater benefits to you. (You can now carry forward any unused annual allowance for the previous 3 years).

When putting money into a pension, tax relief of the contribution is given at the basic rate (20%) for all investors and at the highest marginal rate paid by higher and additional rate taxpayers. So if you are a basic rate tax payer and put money into a SIPP, an £80 contribution will be worth £100 as the government tops up the £20.

Even if you have no taxable earrings, anyone under the age of 75 can still put £2880 into a pension and with the government topping up the rest, it would be worth £3600.

If you start planning your pensions efficiently now, you will reap the rewards in your retirement. As personal allowance is currently £10, 000, it means that married couples can earn £20, 000 in retirement tax free with careful planning.

  • Make use of your tax exemption saving plan – Most people don’t know what a tax exemption saving plan is and thus they could lose out on saving a little extra even if your ISA has been fully used up. Friendly societies offer these plans and this allows you to save £270 a year tax free. Visit a friendly society website such as to find out more.
  • Make the most of your spouse/civil partner income allowance and tax bands – If you are married or in a civil partnership (which has to be registered), and your spouse is currently paying tax at a lower rate than you, move income producing savings and investment assets into their name, and make full use of their personal allowance and basic rate tax band where applicable. This ensures that you pay tax at the lowest rate possible on your earnings.
  • Save with National Savings and Investments – Use NS&I to buy premium bonds in order to keep your savings safe. Although no interest is earned on any bonds you buy, there are monthly draws that take place and your bond will be entered into each and every draw. There are various monetary prizes to be won every month from the top prizes of £1,000,0000 and £500, 000 right down to £25. The best part of this is that any winnings are tax free.

 

For the Employed:

  • Save National Insurance through salary exchange –  Pension contributions made by an employer make use of tax relief, save national insurance and in some cases may have additional benefits. Many firms offer the facility to “salary exchange” (ask your HR department) to take advantage of the multiple tax benefits it encompasses.
    Under a salary exchange arrangement, you agree with your employer to reduce your salary and have an equivalent amount paid into your pension. Look at the example below to fully understand this.
 No Salary ExchangeWith Salary ExchangeTax Savings
Gross Salary£50,000£50,000
E PensionsNill£5,000
E NIC£4,231£4,131£100
Income Tax£9,627£7,627£2,000
Total Deductions£13,858£11,758
E NIC£5,802£5,112£690
Net Income£36,142£33,242
Tax Saving:£2,790
Amount in Pension£5,000

 

For the Self Employed:

  • Car Costs – Another major expense many self-employed people do not claim is the cost of running a car ( not the cost of buying the car!). Many people do not do this because they use the car privately as well. You are bale to claim costs proportionately to the time you use the car for business purposes.
  • Spread Income Tax payments amongst the family – Each member of your family who is able to work has a personnel allowance of £10,000 during this tax year and £10, 500 next tax year. So if you are paying at a rate higher than the basic rate of 20%, you are better off employing your spouse or children part-time in the business. Any wage you pay them will be deductible from the profit of your trade and if they receive a wage of less than £10,000 they don’t have to pay income tax on it. (Although you would have to pay national insurance ion their wage if they earned more than £149 a week).
  • Claim all the expenses you are entitled to – Most Self Employed individuals claim expenses on their SA return which reduces their profit levels but they don’t claim all they are entitled to. One reason for this is due to their bad filling practices. You are able to claim expenses for things such as using a room in your house as an office and fuel expenses for business journeys. Remember to jeep all receipts for expenses for 6 years from the date you deliver your Self Assessment. For a full list of allowable expenses, visit the HMRC website.
  • Make use of any annual losses you have – This is a rather basic once but still worth mentioning. You are able to carry losses from one year to the next and offset them against profits.
  • Strategically choosing your Accounting year – you are able to improve your cashflow by choosing an Accounting Period end date that is earlier than the tax year (if you are just setting up your trade). Doing this will maximise the delay between earning your profits and your final tax demand.

 

For Higher and Additional Rate Tax Payers:

  • Protect your personal allowance – taxable income of more than £100,000 will reduce your personal allowance. For every £2 of taxable income over £100, 000, you lose £1 of your personal allowance. One taxable income is above £120, 000, your personal allowance is lost. One way to ensure you don’t lose your personal allowance is by making pension contributions so that taxable income is only £100, 000.

For example, if you have income of £106, 000, you will pay an additional £1200 in tax as a result of losing your personal allowance. To counteract this problem, make a pension contributions of £6000 gross. Not only will this save you the £1200 in tax, you will also be able to claim tax relief on the pension contribution thus giving you a total tax saving of £3,600.

  • Use the Gift Aid scheme – A good way to save tax for higher and additional rate tax payers is to use the Gift Aid scheme. You can see how the scheme works here.
  • For sophisticated investors, make use of the EIS and SEIS schemes – For those people that like to make shrewd investments, invest in start-up or businesses in there early stages to get relief. Two reliefs available are the Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme(SEIS)

With EIS, you can get Income Tax relief of 30% on your investments and you pay no Capital Gains Tax on the shares you but this way, providing you hold them for a minimum of three years. The SEIS scheme is even more generous but a bit tricky to explain.With the SEIS scheme, say you pay tax at 45% and make an investment of £10,000 that fails completely, you only lose £2,750 due to the tax relief.

Online platforms such as crowd cube and Seders are offer a good array of start-up businesses looking for funding in exchange for a stake in the firm. You can find out more about these types of peer-to-peer websites here.

For Land-Lords:

Landlords can reduce their tax liabilities in many ways from claiming tax-relief on mortgages to using their landlords saving allowance to reducing their capital gains tax bill when selling the rented house. I have written an article on 5 ways landlords can reduce their tax bill where you can find more details on the different ways tax reduction is possible.

 

For Families:

  • Protect your child benefit – For families that have children, if one parent has a taxable income of greater than £50, 000 a year, their entitlement to child benefit will reduce. This works by applying an additional tax charge on a sliding scale from £50, 000, so that when income exceeds £60, 000, any entitlement to child benefit is completely lost.

If you would like to avoid the above problem, reduce your taxable earnings to £50,000 by making additional pension contributions. For example, if you earn £50, 000, you will start to lose some of your child benefit. So, make pension contributions of £5,000. This will save you £2,000 in income tax and will help preserve your child benefit thus giving you an even bigger saving.

  • Use Junior ISA or Children’s Bonus Bond – You are allowed to give £3,000 a year as gifts without incurring any tax. If you would like to give your children more without incurring any tax, make use of a Junior ISA or Children’s Bonus Bond.

 

For those with Investments:

  • Make use of your NISA allowance – I cannot stress the importance of an NISA enough. A NISA will act as a tax shield and will shield any future earnings from within it from tax. It is important to make use of you NISA, because if you don’t use it for this tax-year, then you lose it.
  • Make use of your CGT allowance – Many people don’t know this but we all get a CGT allowance of £11,000. That means that you can make profits from the buying an selling of assets (stocks and shares) up to £11,000 outside your Isa and won’t be liable to pay any tax. You can read more in a previous article I wrote by clicking here.
  • Use a SIPP – Contribute to a Self Investment Pension Plan. This is because governments tops up any amour put into this by 20% for basic rate tax payers and even more for higher and additional rate tax payers.

My advise would be that for any short-term investment, like day trading which you are buying and selling stocks within a year, for these types of investments use your capital gains allowance. For more medium-term investments, where you are going to just buy and hold, use an ISA. And for long-term investments, one where you will only need the money after retirement, use a SIPP.

 

For Pensioners:

  • Look at for the age-allowance trap – People born before 6 April 1948 still enjoy larger, age related personal allowances and may continue to do so for the next couple of years. The personal allowance for these people is currently £10, 500 but they need to be weary that once taxable income exceeds £27, 000, for every £2 of tax income you lose £1 of the age related allowance. One of the easiest ways t avoid this trap is to use income tax shields such as an ISA above.

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