Old Mill Updates

Tax and Spend or Spend then Tax?

There were times during the Autumn Budget speech when you had to remind yourself that this was a Conservative Chancellor speaking, not a Labour one, such was the emphasis on spending, investment and taxation.

The main focus of this year’s statement was the 2021 Spending Review.  Here, the Chancellor announced spending plans amounting to some £600 billion of public sector investment over the remaining term of this Parliament.

In his speech, Mr Sunak acknowledged the country’s tax burden now stands at its highest level since the 1950s. This is perhaps not surprising given the new fiscal rule which, if enacted, will ensure that all day-to-day government expenditure must now be funded out of taxation. A policy of tax and spend, along with the claim that his government was the party for public service, raised a few eyebrows even on his side of the House.

15th November 2021

The Budget itself actually contained very little in the way of new taxation announcements.  Notable proposals included a cut in business rates for those in the hospitality and leisure sectors, and a welcome extension to March 2023 of the £1m Annual Investment Allowance for qualifying capital expenditure. Most of the bad news for taxation had already been announced, either in the Spring Budget or in subsequent statements such as the Health and Social Care Levy.

There was no mention of the much speculated upon restrictions to pensions relief, nor was any reference made to changes in Capital Gains Tax rates or Inheritance Tax. For now, at least, these are mercifully being left alone.

Whilst acknowledging the tax burden, the Chancellor stated his hope that taxation would reduce by the end of this Parliament. And here, in a nutshell, is the political and economic gamble he is taking.

The secret to low taxation is growth in GDP. Higher growth leads to higher employment, higher wages, and greater profits. These in turn facilitate increased tax receipts in some of the largest revenue raising taxes, namely Income Tax and National Insurance, VAT, and corporate taxation.  The gamble is that investment now will deliver the required growth so that planned tax rises can be cancelled, or rates reduced ahead of the next general election.

However, the headroom Mr Sunak has to play with is tight by historic levels. A small rise in interest rates on government borrowing could see this headroom disappear entirely. His cause isn’t helped either by the Office of Budget Responsibility’s forecast that the UK’s departure from the EU will lead to a permanent reduction of GDP of around 4%. So, whether his gamble will pay off, only time will tell.

What we do know, though, is that our clients, particularly owner managers and their businesses, are contemplating a significantly higher tax burden than they’ve faced for some time. Here, it’s worth a brief reminder of the key areas affecting many clients and some initial thoughts on what can be done to mitigate their impact.

Wage inflation and employment taxes

We are operating in a candidate led market and wage inflation seems inevitable. From 1 April 2022, the National Living Wage (“NLW”) will increase by 6.6% to £9.50 per hour. It’s likely this will have a trickle up effect whereby those on pay slightly above the NWL will also see equivalent pay rises.

The new Health and Social Care Levy, published in September, will see employee’s and employer’s NIC rates increase temporarily by 1.25% from April 2022. From April 2023 onwards, this increase will take the form of a brand-new levy of the same amount.

Corporation Tax rates

From 1 April 2023, the main rate of Corporation Tax will increase from 19% to 25% for companies with profits over £250,000.

Freezing of income tax allowances – fiscal drag

In recent times it has become almost a political no-go area to change actual Income Tax rates. Instead, Successive Chancellors have sought to achieve their objectives by playing around with allowances and reliefs. In his Spring Budget, the Chancellor announced that the Personal Allowance and the various Income Tax bandings would be frozen through to 2025/26. Make no mistake, this move – known as fiscal drag – is a tax increase by stealth, since it brings more taxpayers into tax and more income into higher rates of tax.

Are companies paying the price?

It appears that companies and their owners will pay a particularly high price going forwards.

Let’s say you are a shareholder director wishing to draw your profits from your company and let’s also assume you are a higher rate taxpayer. From 1 April 2023, for every £100,000 of pre-tax profit your company makes, you will end up with just £49,690 in your pocket.

That represents a marginal tax rate of more than 50%… and this is before the impact of fiscal drag.

What business owners should be doing

Fundamentally, business owners need to work doubly hard to ensure they pay no more tax than they need to. Here are some thoughts around how this might be achieved:

1) Get your structure right: First, owner managers need to ensure they are trading in the correct business structure. The increase in Corporation Tax rates will further narrow the tax advantages of trading through a limited company rather than as a sole trader or partnership. There will remain advantages to operating through a company but all aspects – both tax and non-tax – should be considered carefully.

2)Tax efficient staff remuneration: Second, businesses would do well to look at how tax efficient their staff remuneration strategies are. Salary sacrifice arrangements, for example, can provide NIC savings for both employee and employer. Moving an auto-enrolled staff member’s personal pension contribution to a company one via salary sacrifice will save employer’s NIC at 15.05% in 22/23.

In a world where staff are demanding flexibility in various aspects of their roles, having a flexible benefits arrangement can not only be attractive from a tax perspective but can be very appealing to both existing staff and new recruits into the business.

3) Claim your reliefs: Third, it is vital that the business, and its owners, take advantage of every relief and allowance due to them. This may sound obvious, but the law is so complex and the life of a business owner so busy, that these often get overlooked. There is no checklist here, but two examples of opportunities we regularly encounter are:

Capital allowances:

The Spring Budget introduced the super deduction, offering 130% tax relief on qualifying expenditure incurred up until 31 March 2023. The Autumn Statement saw the extension of the £1m Annual Investment Allowance to the same date. Used carefully, these can significantly reduce the net cost of planned investment in your business.Capital allowances are a basic relief, designed to encourage investment, but they are often underclaimed. This is particularly so when it comes to buildings. Here, the law is overly complex, and often little understood. As a result, many businesses are still sitting on commercial property on which they have not fully claimed the allowances due to them. Anyone holding commercial property would be well advised to consider whether a historic claim could be made to reduce their tax liabilities and, in some cases, release cash.

When buying a new property there are important rules which need to be complied with in order to claim capital allowances and obtaining advice before starting the project is vital to a claim.

This is such a significant area to our client base that we have set up a dedicated capital allowances team designed to help clients maximise their claims. The team are currently working on both new building developments and on historic claims for several clients, which are already leading to significant tax claims and tax repayments.

Research and development tax credits:

The Chancellor reiterated the government’s commitment to a world class R&D regime. This is an attractive incentive but there are still many businesses who would qualify for this relief but fail to take advantage.A word of caution though as this is still an unregulated market with a number of providers aggressively promoting R&D tax credits. We would urge that business owners apply a cautious approach to submitting claims particularly given the increased levels of HMRC scrutiny in this area. We are seeing an increasing number of enquiries and would counsel businesses to consider using a regulated firm who hold professional indemnity insurance which will cover the professional costs of handling an enquiry.

4) Extraction: Finally, your business essentially funds your lifestyle. Extracting funds (for use now or in retirement) in the most tax efficient way can make a huge difference you and your family.

To this end, the increase in Corporation Tax rates brings pension planning even more to the fore. Remember that figure of £49,690 mentioned previously – that was the money left in your hands from extracting all of your company’s pre-tax profit of £100,000. That could be £49,690 to put towards a buy to let investment property for example. If that £100,000 were extracted instead as pension contributions, your starting investment would be the whole of that £100,000 profit.  There are restrictions on what pensions can invest in of course, and advice should always be sought before making such an investment. But, as a tax efficient method of extracting profits and saving for your financial independence, pension schemes arguably remain second to none.

What can your accountant or tax adviser do to help?

In years gone by, an accountant would typically attend a pre year end meeting and perhaps lay two or three ideas on the table to potentially help their client save tax. Successive forms of anti-avoidance and numerous changes to tax law means that this kind of generic tax planning is no longer effective, if indeed it ever really was.

Like you, we too need to work doubly hard to help you become more tax efficient. In order to achieve this, it’s essential that we build a close and deep relationship with you as a client; a relationship where you have regular access not just to your adviser, but also to a tax specialist.  That close contact enables us to understand you and your goals from both a personal and a business perspective. This way of working enables us to hear first-hand what your plans are so that we can spot opportunities and risks at the planning stage before it is too late.

Our role as tax advisers is of course to help you be tax efficient and to ensure you don’t pay tax unnecessarily. But our role is much wider than that; it is also to help you manage your affairs with HMRC and to mitigate your risk from challenge.

As tax legislation gets ever more complex, as tax rates increase and thresholds stay put, as HMRC builds its compliance teams to recover underpaid tax and raise penalties on that tax, our role is to guide you through this maze, to help you keep as much money in your hands and, in doing so, to help you secure your family’s hard-earned wealth.