When providing tax advice the most important factor is to give equal consideration to business and personal tax affairs. Chartered tax advisors call this holistic tax planning, which may sound a bit ‘airy-fairy’ but as the examples below illustrate, the approach makes a very concrete difference between incurring tax unnecessarily and paying the legal minimum.
What should I expect from a holistic tax planning review?
An advisor would examine both your personal and financial situation to understand how you might be able to reduce your corporation tax rate and be withdrawing additional income from your business either completely tax free or at a lower rate of taxation.
Business owners in particular can considerably reduce their tax bills by carefully balancing personal and company expenditure with income to take full advantage of any tax relief available. Now, especially with the introduction of the top 50% tax rate, proactive tax planning which uses strategies such as income equalisation can save a significant amount of money.
The example below illustrates how tax planning cuts tax bills
Mr Evans has a successful business and takes his remuneration in the form of a £150,000 annual salary. Any income he earns over £100,000 is taxed at 50% and he also forfeits his entitlement to the £6,475 annual personal allowance. His wife Elaine is also a director and employed part time by the business. She takes an annual salary of £20,000, of which £13,525 is taxed at 20%. By equalising their incomes it is possible to reduce Mr Evans’ tax bill considerably. This is achieved by limiting the amount of income that incurs a 50% tax rate and preventing the full erosion of his personal allowance.
In effect, tax planning enables the couple to move £80,000 of their joint incomes into the lower 40% tax rate.
UK’s increasingly complex tax system
For anyone on a six-figure salary, equalisation between qualifying spouses is increasingly being regarded a key tax planning strategy. This is because changes to the tax system have created such a wide range of tax rates, which range up as high as 60%, depending on your income bracket.
For example higher income taxpayers incur the following top rates of tax:
- £35,001 and £100,000 – 40% tax rate
- £100,001 and £113,000 – 60% tax rate
- £113,000 and £150,000 – 40% tax rate
- £150,000 and above – 50% tax rate.
A large proportion of higher rate taxpayers unwittingly fall within the 60% tax bracket in which both the entitlement to a personal allowance is lost and, for each £2 of income earned beyond £100,000, £1 is forfeited as tax. For business owners in particular, you can benefit from a good deal of flexibility over the forms your income can take, by combining salary with shares, dividends and use of the director’s loan account. Tax planning will help to identify the optimum way to structure your financial affairs and legally reduce your taxable income to avoid incurring the highest tax rates.
Lesley Stalker is Head of Tax at RJP