Are you paying too much tax?

by David Prosser

26th March 2022

There’s a wealth of canny – and totally legal – ways of reducing the tax you pay. Here’s how to make sure you’re not missing out

From April, almost everyone in work will pay more tax, as the government increases national insurance contributions by 1.25 percentage points to raise money for health and social care. But while taxpayers will feel the pain, there are ways to cut your tax bill each year and you might even be able to save more than the national insurance increase costs you.

“There are some real open goals and golden opportunities when it comes to reducing your tax bill,” says Lindsey Adams, managing director of south Wales-based financial adviser Quadrant Financial Associates. “The key is not to leave it until the last minute to take advantage.”

Organising your financial affairs in a tax-efficient manner is entirely legal. It is not tax evasion or even avoidance, but just good money management. By working through your options methodically, and planning ahead for deadlines such as the end of the tax year on April 5, you can make significant savings.

Start with your family finances, where many people miss simple steps. For example, high earners often have non-earning spouses who aren’t using their own tax allowances. In which case, you may be able to transfer income and assets into their names in order to use their personal income tax allowance of £12,570 (in the 2021-22 tax year) and their capital gains tax allowance of £12,300.

Even if your partner has some modest earnings, there are still possibilities. The marriage allowance is aimed at couples where one partner earns less than the personal allowance.

If so, the other partner is entitled to a transfer of the unused personal allowance in order to reduce their own tax bill. Up to £1,260 can be transferred in the current tax year, potentially saving up to £250.

Depending on how you make your living, there may be other opportunities. In particular, if you’re self-employed, you can set work-related expenses against your profits to reduce the tax you owe; setting yourself up as a limited company, rather than a sole trader, may also make sense.

Charitable donations are another good example of a quick win – and with many people wanting to support humanitarian causes in Ukraine right now, it is important to understand how the rules work.

When you make a gift to a recognised charity, it has the right to claim back basic-rate tax on the money – so a £1.25just £1. If you’re a higher-rate taxpayer, you can use your self-assessment tax return to claim the difference between the basic and higher rates of tax for yourself – a 25p tax refund in this case.

Savings and investments also offer lots of different opportunities to reduce your tax bill, so it’s worth getting organised. Many tax-efficient allowances are tax-year specific, so if one isn’t used, it’s lost.

For a start, everyone gets their own £20,000 individual savings account (ISA) allowance each tax year. Through ISAs, you can invest in a wide range of assets, from cash savings accounts to the stock market, and all the income and profit will be completely tax-free. This is particularly valuable on stocks and shares ISAs, through which you invest in assets such as bonds and shares, rather than cash. Since the personal savings allowance entitles you to earn £1,000 of savings interest outside of ISAs on cash savings accounts with no tax to pay each year, don’t forget to use it.

A cash ISA may not net you a tax saving. In any case, many providers don’t pay their best rates of interest on these accounts. By contrast, in a stocks and shares ISA, you may earn both dividend income and capital gains, which the wrapper protects from tax even as they build up into considerable sums.

Pensions are valuable from a tax-efficiency perspective too. Contributions to private pension plans – either your employer’s scheme or an individual arrangement – attract tax relief at your highest marginal rate of tax. And most people are allowed to contribute up to £40,000 each year (or the value of their earnings if this is lower).

Saving £1,000 in a private pension plan costs basic-rate and higher-rate taxpayers only £800 and £600 respectively – HM Revenue & Customs (HMRC) pays the rest. Salary sacrifice schemes, offered by some employers, can make pension saving even more tax-efficient.

Other tax-efficient savings and investments are also worth investigating, adds Jessica Franks, head of retail investment products at London-based Octopus Investments.

“As we head into the new tax year, it could be worth speaking to your financial adviser about ways to access exciting unquotedopportunities via venture capital trusts [VCTs] or the enterprise investment scheme [EIS],” she says. “Or about accessing investments that qualify for business property relief to assist with inheritance tax planning.”

It is important that you don’t let the tax tail wag the investment dog, financial advisers stress. In other words, never make an investment simply to secure a tax break – this should be a financial decision that makes sense for you, given your circumstances, goals and appetite for risk, with tax perks as a bonus.

Still, if you are making investments, do build tax efficiency into your decision-making process.

“Most clients overlook the sequential element of saving – they don’t consider how to order the tax efficiencies that deliver the highest return,” warns Stanley Morrinson, the managing partner of London-based financial adviser Morrinson Wealth.

Pensions tax reliefs are more valuable than any others, he points out, followed by VCTs and the EIS, and then stocks and shares ISAs. “Once you appreciate your financial structures offer different degree of incentives, seek to use them in that order,” Morrinson adds, noting that you should first check all of these vehicles are appropriate for your needs.

Finally, while investing tax efficiently in this way will enable you to build up more savings, that may expose you to other issues, including inheritance tax.

“We’re seeing inheritance tax hit many more people, not least because of soaring house prices,” warns Quadrant’s Lindsey Adams. Indeed, HMRC collected £4.6 billion in inheritance tax between April and December 2021, an increase of £600 million on the year before.

Still, there are steps you can take to protect your heirs. Most straightforwardly, you can give away up to £3,000 each year with no inheritance tax implications at all, plus you can bestow as many smaller gifts of up to £250 as you like, as long as they don’t go to the same person.

Larger gifts will reduce your inheritance tax liability even more significantly – these are “potentially exempt transfers” that fall out of your estate for tax purposes seven years after you make them.

SIX MORE QUICK TAX WINS

SAVE FOR CHILDREN

Children also get their tax-fee investment allowances. Make use of the £9,000 junior ISA allowance and the £3,600 pension allowance.

USE YOUR DIVIDEND ALLOWANCE

You can earn £2,000 of dividend income – from investments or your own business – each year with no tax to pay.

CHANGE YOUR CAR

Vehicle excise duties are lower on low-emission cars and electric vehicles; and if you have a company car, you’ll also pay less income tax on greener cars.

DOUBLE YOUR INHERITANCE TAX ALLOWANCE

Married couples can leave estates to one another with no inheritance tax to pay, plus they can pass on their inheritance tax allowance. For couples with property, the joint inheritance tax allowance can be as high as £1 million.

RENT OUT A ROOM

The Rent-a-Room scheme allows you to receive up to £7,500 in rent each year from a lodger, with no tax to pay.

CHECK YOUR TAX CODE

This code, found on your payslip, and sent to you annually, indicates how much tax HMRC will deduct from your salary. Use an online guide to check your code is right – and reclaim any tax you’re overpaying if it’s wrong

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