Defend your finances from the ‘Trojan Horse’ Budget
DIVIDENDS (Bad news) THE biggest surprise – and it was a nasty surprise – was the reduction in the so-called tax-free dividend allowance, which will be cut in April 2018 from £5,000 to £2,000.
This will hit hard those who are heavily dependent on income from shares to supplement their finances – as well as small business owners who operate as a limited company, paying themselves dividends. WHAT’S THE CHANGE CURRENTLY, anyone earning up to £5,000 a year on dividends pays no tax on this sum. This is because dividends are paid from company profits, which are already subject to corporation tax.
For any amount above £5,000, a basic rate taxpayer pays 7.5 per cent, a higher rate taxpayer is charged 32.5 per cent and an additional rate taxpayer pays 38.1 per cent. But any dividends on shares held within Isas and pensions are safe, and do not count towards this allowance.
The danger for shareholders who do not hold their stocks in an Isa or pension is that they will be pushed further into a higher tax bracket.
Take, for example, a worker earning a salary of £41,000 in the current tax year. They pay basic rate tax on £30,000 after their personal allowance of £11,000 is factored in.
If they receive an additional £8,000 in dividend income, £5,000 is tax-free with £3,000 subject to tax at 32.5 per cent, because the dividend income makes them a higher rate taxpayer.
The entire £8,000 is taken into account when determining whether someone is tipped into a higher rate.
Under the new regime, effective from April 6, 2018, only £2,000 of the £8,000 dividend income would be taxfree, leaving £6,000 exposed to tax at 32.5 per cent with £975 more to pay. REACTION THE shrinking of the tax-free dividend allowance is a kick in the teeth for income-hungry investors. Quite rightly, it has been condemned by money experts.
Laith Khalaf, an analyst at financial services giant Hargreaves Lansdown, describes it as a ‘Trojan horse’, used to ‘smuggle higher rates of dividend tax into the system’.
Tracyann Kneen, product technical manager at Nucleus, which offers a platform for tax-friendly investment wrappers, says the cut ‘sends out a confused message’ to those busy saving for their future.
She adds: ‘It does not help with setting a long-term financial plan.’ YOUR STRATEGY INVESTORS with big portfolios that generate dividends in excess of £2,000 a year should ensure they maximise their annual Isa allowances. By acting before the new tax year arrives in four weeks’ time, they can amass three years’ worth of Isa allowances before the new dividend regime comes in, thus sheltering future income from dividend tax.
It is also possible to ‘bed and Isa’ investments – selling investments held outside an Isa and then buying them back within an Isa. However, capital gains tax may apply on the sale of shares, although everyone has an annual exemption of £11,100.
Similarly, investors can ‘bed and Sipp’ investments. Like ‘bed and Isa’, dividend-friendly investments can be sold and then immediately bought back within a Sipp, or self-invested personal pension.
Again, capital gains tax may be an issue, and by putting the investments inside a pension, it means they cannot be accessed until the age of 55.
But 20 per cent tax relief will be automatically added to the money going into the pension. And higher rate and additional rate taxpayers are able to claim more through their tax return.
Laith says: ‘Using tax shelters to protect dividend income is ever more important, and who is to say that this Government or a future one will not cut the £2,000 allowance further or abolish it altogether?’
INDIVIDUAL SAVINGS ACCOUNTS (Good news)
WHAT’S THE CHANGE? THE annual Isa allowance increases from £15,240 to £20,000 in the new tax year next month, and rises from £4,080 to £4,128 for Isas set up on behalf of children (so called Jisas).
Although contributions into Isas do not receive tax relief – as pensions do – there is no tax to pay when withdrawals are made.
Money can also be taken at any age,
unlike pensions, where withdrawals can be made only from the age of 55.
REACTION AND STRATEGY THE boost in the allowance is a welcome move, enabling investors to build substantial tax-free wealth, which can be drawn upon in a financial emergency in the future. It offsets the disappointing news on the shrinking of the annual tax-free dividend allowance.
It will prove useful for those who do not want to tie up all their longterm wealth in a pension. And it will help those who are restricted in how much they invest in a pension because they are up against the lifetime allowance (£1million) or are an additional rate taxpayer. Such taxpayers are restricted in how much they can contribute towards a pension, in some cases to no more than £10,000 a year.
Ben Willis, a director of Bristol- based financial adviser Whitechurch Securities, says: ‘This boost to the annual Isa allowance will encourage more people to invest and think about providing for the future. It has to be a good thing’.
Young savers keen to build a deposit for a home should think about contributing to the new ‘lifetime’ Isa. It will be available to anyone aged between 18 and 40 from April 6, this year, and will pay a Government bonus of 25 per cent a year up to the holder’s 50th birthday. There is no minimum contribution, but the annual maximum is £4,000. So for someone paying in £4,000, the Government would top it up with £1,000.
The cash cannot be accessed penalty-free until age 60, unless it is used to purchase a first property.
Savers who use the funds to buy a first home can use it to purchase any property up to the value of £450,000.
NATIONAL SAVINGS (Indifferent news)
THE Government-backed National Savings & Investments is currently chipping away at its savings rates and making it harder for Premium Bond holders to win big prizes.
But from next month, it will offer a new three-year savings bond paying 2.2 per cent fixed. The maximum holding will be £3,000.
Most financial experts are unimpressed by the new bond. They say the maximum holding is too small and it offers no appeal for income-hungry savers, because holders must wait for the bond to mature before receiving any return.
With inflation expected to rise to 2.4 per cent this year and 2.3 per cent next year, bond buyers will struggle to earn a real return on their investments.
Maike Currie, investment director for personal investing at financial services firm Fidelity, says: ‘To stand any chance of generating an inflation-beating return in the current low interest rate environment, long-term savers are far better off looking at corporate bonds or moving into shares, ideally through the tax-friendly wrapper of an Isa.’