When it comes to tax, it is understandable that you may want to reduce the amount you are liable to pay in any given year.
Reducing your tax liability where possible can help you retain more of your hard-earned wealth, potentially setting you up for a more comfortable retirement, and enabling you to support your loved ones too.
Especially since inflation hit 9% in May 2022, exemplifying the severity of the UK’s current cost of living crisis, now is the time to prioritise tax efficiency. By doing so, you could make valuable savings that might help mitigate the rising costs the country is experiencing in 2022.
Read on to find out why maximising your tax efficiency is crucial for making the most of your wealth in the coming years.
Tax breaks are decreasing in the UK
Last month, you read about the chancellor’s “big freeze” in four key tax allowances, and how these will affect your wealth until 2026.
Indeed, at the start of the 2022/23 tax year, individuals saw tax allowances, including the pensions Lifetime Allowance (LTA) and the Income Tax Personal Allowance, fixed at their current rates for the next four years.
These freezes could cause you to pay more tax if your wealth increases while the allowances remain at their current levels.
Not only have allowance freezes come into place in the 2022/23 tax year but, in fact, MoneyAge reports that tax breaks have decreased by 6% in the last decade, rather than rising in line with inflation.
In light of these tax allowances slowly decreasing over the past 10 years, and continuing to be limited for the coming four years, it is even more important to make the most of the tax breaks youdo have.
By doing this, you could still reduce your tax bill overall, despite the decrease in tax breaks the UK is experiencing.
3 important allowances to make the most of this year
1. The £40,000 pension Annual Allowance
As you may already know, most earners are able to tax-efficiently save up to £40,000, or their earnings if lower, into their pension each year. This is known as the “Annual Allowance”.
If you have a “threshold income” of more than £200,000 a year, and “adjusted income” (your earnings plus the value of employer pension contributions) of more than £240,000 a year, the Annual Allowance is tapered according to your earnings.
If the Tapered Annual Allowance applies to you, contact your financial planner for guidance, as it could mean your Annual Allowance is reduced to just £4,000.
Making the most of your Annual Allowance can have real benefits, including:
- Saving enough for a comfortable retirement
- Reducing your Income Tax and National Insurance contributions (NICs) if your employer pays into your pension on your behalf
- Potentially seeing positive returns on your investments by growing your wealth in a tax-efficient environment.
What’s more, you can carry forward your unused Annual Allowance from the previous three tax years. So, if you have not taken advantage of this allowance in the past, you can still make up for lost time.
While the Annual Allowance is a fantastic way to save for your future tax-efficiently, remember: the pensions Lifetime Allowance (LTA) has been fixed at £1,073,100 until 2026. This means your pension is more likely to reach the LTA than in previous tax years.
So, make sure you speak to your financial planner about making the most of your Annual Allowance, while remaining within the LTA, in this and future tax years.
2. The £3,000 annual exemption amount
The £3,000 annual exemption amount allows an individual to reduce the value of their estate by gifting money to loved ones. This allowance can help reduce the amount of Inheritance Tax (IHT) they will pay.
This is especially important to understand now, because IHT receipts have increased in recent years. According to government data showing the progression of IHT takings in the last decade, IHT receipts totalled £6.1 billion between April 2021 and March 2022 – £0.7 billion higher than the same period a year earlier.
What’s more, the nil-rate bands, which state the amount you can pass to beneficiaries without paying IHT, have been frozen until 2026, rather than increasing in line with inflation.
Indeed, calculations published by Professional Adviser revealed that, if indexed, the nil-rate band would have stood at £464,512 in March 2022. Instead, it is fixed at £325,000 until 2026.
So, if the value of your estate increases in the coming four years, your beneficiaries will likely pay higher IHT if you pass away.
Using the individual £3,000 annual exemption amount by giving away cash gifts each year, you could lower the amount you will inevitably pass down when you die, and potentially mitigate your IHT liability in the process.
You can carry over your unused annual exemption for one tax year only. So, if you didn’t gift any money last year, you could gift up to £6,000 in this tax year.
Now, more than ever, is a crucial time to begin the estate planning process, giving you plenty of time to discuss reducing your IHT bill with your financial planner.
3. The £12,300 Capital Gains Tax allowance
Capital Gains Tax (CGT) is applied to profits made on personal belongings you sell, including your second home, shares that aren’t in an ISA or PEP, or non-personal vehicles.
Luckily, there is a CGT allowance of £12,300 a year that allows you to make substantial profits on your belongings before tax. However, this allowance is frozen until 2026, so if your assets increase in value in the coming years, your CGT bill could increase if you were to dispose of any of these.
So, maximising your CGT allowance by strategically selling assets, with the guidance of your financial planner, could reduce your CGT bill overall.
Remember: you cannot carry over your CGT allowance, so it is important to use this allowance within the current tax year.
Get in touch
In simple terms, using your allowances can help you pay less tax. However, in practice, the process of lowering your tax bill can be complex – and you don’t have to do it alone.
For guidance on making the most of your allowances, email firstname.lastname@example.org or call 0161 8080200.
This article is for information only. Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.
The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.
Workplace pensions are regulated by The Pension Regulator. The Financial Conduct Authority does not regulate estate planning, tax planning or will writing.