You will no doubt have heard the mood music coming out of Numbers 11 and 10 Downing Street over the past few weeks. We had the Chancellor’s announcement of £22bn ‘black-hole’, followed by the Prime Minister foreshadowing a “painful” Autumn Budget (30th October), where tax rises will be announced which will be borne by “those with the broadest shoulders”.
Unsurprisingly this has led to a lot of speculation as to what those tax rises may look like (beyond VAT on school fees). The Labour party made manifesto pledges on Income Tax, National Insurance, VAT and Corporation Tax, which it has said it will not break, making those unlikely targets (at least the main rates for “working people” i.e. earned income).
It seems certain that in some way, shape or form it is going to be wealth that is predominantly taxed.
There has been some speculation regarding a new wealth tax, however there are many examples internationally showing how difficult this is to implement successfully in reality. In our opinion, it is more likely existing capital taxes will be used to raise additional revenue for the exchequer.
Historical Context
Given the above announcements from the Chancellor and Prime Minister and the near constant stream of alarmist stories from the Telegraph, there’s understandably been some concern around. We thought we’d just start with some context of current tax rates and potential increases.
Below is an old tax card Martin found from Scottish Widows, setting out the rates of the main taxes of the time:
Some of the rates are certainly quite eye watering; higher rate income tax rates of 60%, flat rate CGT of 30% and main rate Corporation Tax of 45%. Also, Capital Transfer Tax (which became Inheritance Tax the following year), was charged at up to 30% on lifetime transfers and 60% on death!
The most interesting thing is that this tax card isn’t from a 1970’s Labour government, but from 1985, slap bang in the middle of well-known socialist Margaret Thatcher’s reign as PM.
Another interesting fact is that the current total tax take, as a proportion of the economy, is far higher now than it was in 1985, despite those rates shown above. This shows how much stealth tax increases and fiscal drag have taken over the years (along with higher VAT and huge increases in Stamp Duty). These other sources of tax hit far more of the population than the top rates shown above.
Despite the fear over upcoming tax rises, we are very unlikely to see the likes of income tax, inheritance tax and corporation tax rates get anywhere near those seen in the middle of Mrs Thatcher’s reign.
Potential Sources of Tax Increase
The following are the areas generally perceived to be to most likely to see revenue raising:
- Capital Gains Tax (CGT)
- Pensions
- Inheritance Tax (IHT)
- Fiscal Drag
Below we set out our views on these potential tax increases and discuss the possible planning considerations ahead of the budget.
Capital Gains Tax (CGT)
To us, this appears to be the easiest target to raise significant sums. We’ve been saying for many years it’s an obvious way to raise revenue, even more so for a Labour government than a Conservative one.
Main CGT rates are half those of income tax, it’s only paid by about 5% of individuals (so not widely unpopular amongst voters) and there is no manifesto pledge to be broken in raising it.
Headline rate
As such, we expect the Autumn Budget to include an increase in the headline rate of CGT. We obviously can’t know specifics, but anything up to a doubling of rates to align with income tax seems plausible (although hopefully less drastic).
The question is clearly whether or not to sell assets now, to realise gains at a known, historically low rate, ahead of a potential (even likely) increase. For many people this may well make sense, at least to some extent.
Uplift on Death
Currently, a deceased’s estate is deemed to acquire assets at the value on the date of death, wiping out capital gains – as such, CGT can be avoided by holding assets till death.
If we knew this treatment was to continue, the imperative to take large capital gains now would be reduced for many; because you could just hold gains (at least some) till death and CGT would never being paid.
However, this tax break could be removed. Indeed, the now disbanded Office for Tax Simplification (OTS) made recommendations to remove this in both their 2020 review of CGT and prior reviews of IHT.
If the uplift was removed and either your estate (or beneficiaries) ultimately had to pay CGT on the gains at new higher rates, it would be worth realising gains now, paying tax at the known lower rate.
The OTS did at least recommend that if the uplift on death was removed, indexing of acquisition costs should be brought back to avoid overly disadvantaging those with long held assets.
Reliefs
There’s the distinct possibility that Business Asset Disposal Relief (the artist formerly known as Entrepreneur’s Relief) will be for the chop (or diminished). Although unpopular with the business community it wouldn’t be with Labour’s core voters and would raise revenue.
Pensions
There are a few potential pension changes that could yield significant revenue for the Treasury. However, pensions legislation and the system as a whole is very complex, and knock on impacts and unintended consequences are common.
As such, changes in pension rules don’t tend to happen overnight. They most commonly change on a tax year basis, so most potential announcements are likely to be implemented next April at the earliest.
Tax Relief
Tax relief on pension contributions costs governments billions of missed income tax revenue – particularly higher rate tax relief (of which it sees far less back on pension income). It wouldn’t be the first government to look down this avenue.
Removing higher and additional rate tax relief on contributions (moving to a flat rate 20% relief) would raise billions each year and most of the population would be unaffected.
It is also far easier said than done (at least in a vaguely fair way). The only way to implement a flat rate of relief would be to tax contributions from higher rate taxpayers now, on money they are not receiving, potentially for decades. To say this would be unpopular with those effected would be an understatement – many of which are public sector workers.
Speaking of which, the NHS has struggled massively with senior doctors quitting because of tax on their pension benefits. Tax on contributions (via the Annual Allowance) was recently reduced predominantly to help the NHS. Slapping a big tax bill tax on senior doctor’s contributions now would presumably be a problem.
Another question is how do you deal with employer contributions; do these also get taxed on the individual now? Otherwise, the obvious route would simply be for employees to stop paying into their pensions, with deals for employers to make contributions instead. Taxing employer contributions would further hammer public sector workers, who tend to receive 15-25% of their salary in employer pension contributions already.
I said ‘in a vaguely fair way’ above, as a deeply unfair solution to sidestep these issues would be to exempt Defined Benefit (e.g. final salary) schemes, the kind the public sector receives. I would hope the creation of a two-tier pension system, essentially a tax-advantaged one for those who already have the best pension provision and a worse one for the rest wouldn’t be considered by any reasonable government.
In planning now, you could choose to bring forwards 2024/25 personal pension contributions before 30th October. In our view it’s unlikely there will be any changes to tax relief this year, if at all, but if it’s simply a case of timing there may be little to lose in acting now.
Lump Sums
Currently most people can take 25% of their pension pots as tax-free lump sums, up to a £268,275 limit. The government could look to further limit or even abolish this entitlement.
Drastic action would likely be deeply unpopular – tax-free lump sums are a huge motivation for pension savers and eroding this perk would likely undermine efforts to increase savings rates and investment in UK Plc. Again, the knock-on impact on senior NHS staff (and civil servants) would need to be kept in mind.
Historically reductions in pension entitlements have come with protections for those who accrued benefits under old rules, this happened with lump sum entitlements in 2006, 2012, 2014 and 2016. Continuing this accepted approach would require more complex legislation on top of the rushed and badly drafted (by Labour’s own assessment) pension legislation introduced by the Conservatives over the past two years.
Those over the age of 55 with larger pensions could choose to crystalise their benefits now, taking lump sums ahead of any potential restriction. Wider financial planning considerations would need to be considered in detail.
Death Benefits
This appears an obvious revenue raising option. We’ve always viewed post-2015 rules on pension death benefits to be bizarrely generous and changes could probably be achieved without too many knock-on impacts and complications (at least by pensions standards).
Currently on death before age 75, you can pass on pensions 100% tax free. Consequently, beneficiaries can draw more net than the deceased pension owner, as they would’ve paid tax on their pension income. This seems somewhat perverse and could easily be changed so beneficiaries also pay income tax when death occurs before age 75.
Pensions are (usually) free of Inheritance Tax (IHT), meaning there is an estate planning advantage in building (and keeping) assets in pensions over other savings/investments. Pensions have always been IHT exempt, but before 2015 there were additional tax charges on passing on death benefits (with some exceptions e.g. spouses). The government could either end the IHT exemption or bring back additional pension tax charges.
There is little planning that could be done now vis-a-vis death benefits, however any change in the rules would likely necessitate a review of retirement and estate planning strategies.
Inheritance Tax (IHT)
The main rate of IHT is currently a flat 40%, which is high compared to most taxes. IHT is also very unpopular with the public (despite being paid by relatively few estates), making an increase in the main rate seem fairly unlikely.
Allowances
Currently a married couple can give away up to £1million IHT free, through a combination of the Nil Rate Band (£325k each) and an additional Residence Nil Rate Band (£175k each) for passing on a home. These could potentially be trimmed. Again, the degree of unpopularity may dissuade this.
Reliefs
More likely, there are two big 100% IHT reliefs that the government could go after; Business Relief on private company shares/assets and Agricultural Relief on farming land/assets. Removing these reliefs may cause economic headaches down the line, but as we saw in the earlier tax card, these reliefs were only 30% – 50% back in 1985, so there would certainly be precedent for heavily reducing them.
Other
We’ve already spoken about pensions. Trusts could potentially be targeted by increases in periodic and exit charges. Gifting rules could also be tightened, but these aren’t exactly generous to begin with.
The final option would be a wide-ranging reform of the whole system, as was proposed more than 5 years ago by the OTS, which recommended flipping the tax burden onto the recipient, rather than donor. However, it would seem unlikely this could be implemented in such a short space of time.
Naturally estate plans would need reconsidering in the light of any new rules, rather than acting now.
Fiscal Drag
An old favourite of many a government, raising large amounts of tax over time without creating an initial pain point for taxpayers. We already have income tax bands frozen from April 2021 all the way to April 2028 (netting the government an estimated £25.5bn for 2027/28 alone compared to indexing!). The big freeze could potentially continue; every imaginable tax allowance and band can be got at.
The best example is probably IHT. When proposed in 1984 there was a £3,000 annual exemption for gifts (for which you don’t need to survive 7 years to be outside your estate). That £3,000 amount still stands 40 years later and doesn’t quite buy what it used to.
Planning Conclusions
The main area of planning for most ahead of the Autumn Budget will be around whether to dispose of assets on large gains now. The decision will be impacted by the size of gains and the likely need to dispose of assets in the future (for spending, gifting and portfolio management) versus being able to hold through to death (should beneficial treatment remain).
Some may wish to consider taking pension lump sums now or making planned personal pension contributions slightly earlier, ahead of the budget.
Any changes to pension death benefits or IHT will need to be reflected in plans after the budget announcements.
If you would like to discuss any of the issues raised or need any help reviewing your wider financial picture, please don’t hesitate to get in touch and we’d be happy to see if we can help.
Disclaimer
The above is provided for general information only. No action should be taken without seeking advice for your specific circumstances. Collingbourne Wealth Management Ltd does not provide tax advice. All information is based on our understanding of current tax rules as at the time of writing, which is subject to change.