April 2017's tax changes: a contractor’s overview
It’s not just IR35 that’s changing imminently. There’s a lot of personal finance adjustments in the next 24 hours which -- collectively -- could put an even bigger dent in your bottom line just as the new tax year begins, writes Angela James of IFAs Contractor Wealth.
Mortgage interest clawback begins
One of the potentially most bruising changes affects contractors who rent out a property that they own as an investment. Planted by former chancellor George Osborne, the fuse for this ticking time-bomb is lit from tomorrow -- Thursday. From then, landlords will no longer be allowed to deduct the cost of their mortgage interest from their rental income when they calculate a profit on which to pay tax.
It means tax will be applied to the gross rent received, rather than on what is left of the rent after the mortgage interest has been paid. Due to be fully implemented by 2020, the move means any landlord who currently pays a higher rate of tax (at 40% or 45%) will pay more to HMRC. And many of those who are basic rate taxpayers will also pay more, because the change will push them into the higher rate tax bracket.
How to beat the clawback
There are three options you can pursue in order to make buy-to-let a still very worthwhile investment:
1 - Review your existing mortgage arrangements.
Remortgaging could bring lower interest payments which would wipe out, or mitigate, the increase arising from the new tax regime.
2 - Move the buy-to-let over to your spouse.
This is only feasible if your spouse is a basic rate taxpayer. But you’d need to ensure the move wouldn’t push your partner into the higher rate tax band.
As we’ve been advising since Mr Osborne's Summer Budget, contractors can legitimately set up subsidiaries of their existing company and create a company buy-to-let. That company will pay corporation tax, but this is preferential because it works out to be half the higher rate tax, and is still subject to relief. Before setting up a company, you need advice though, and the process does involve thought and paperwork. Once up and running however, it is no harder to manage than a traditional buy-to-let.
Investment property (continued)
Staying within the realm of property, it hasn’t gone unnoticed that some investors feel a bit picked on. As well as the mortgage relief clawback, there is last year’s stamp duty sting for the purchasers of additional residential properties. It might seem small in comparison, but there is a new £1,000 allowance for micro-investors.
The government says that if you’re in receipt of property income below this threshold, then the full sum will no longer be subject to tax. You also need not declare it to the taxman. For those with property income above £1,000, you simply use the allowance as a deduction against your gross income to arrive at your taxable income figure.
Your other estate
This week also sees the introduction of the disliked ‘stealth death tax’ changes. They were conceived to tighten the government’s grip on the above-average income earner. Contractors should therefore beware that the ability to leave their estate fully accessible upon death is being severely eroded.
Firstly, there are new probate laws (from May) with the possibility of requiring £20,000 just to access an estate. Looked at through the lens of still swinging IHT, and constant rises in house prices, the new laws mean that what you thought you were leaving your family may be a very different figure indeed.
Secondly, the Bereavement Allowance, which the government pays to grieving families, is being slashed from this Thursday. It means the government’s provision of up to 20 years in financial support when a parent dies is being brutally curtailed to a mere 18 months. This is worrying for young families, especially in cases where the main income earner is the deceased. The gap in income this will leave can have radical implications to the support and quality of life the remaining family will have access to.
Fail to plan, plan to…
Positively, these areas can easily be safeguarded against by some basic and typically low-cost financial planning strategies. There are options available to provide support in your absence on a monthly or lump-sum-basis. In turn, this can be used to provide a ‘bereavement allowance’ and cover any probate fees to grant access to your estate while plugging the gap that IHT will create in the value of your estate.
Seeking financial advice is the first step in safeguarding your family and lifework against these taxing changes, ensuring your family can reach the financial position you wish them to be in.
Also regarding estate planning from this month, a new IHT perk will benefit family homes. The so-called ‘family home allowance’ will be worth £100,000 per individual when passing on a “main residence.” However, there will be a tapered withdrawal of the additional nil-rate band for estates with a net value of more than £2m. This will be at a withdrawal rate of £1 for every £2 over this threshold.
Given that IHT has been stubbornly frozen for eight years, this tax break is welcome. Less welcome for some contractors who use an umbrella company is an alert that NEST savers could foist IHT bills onto their children, on savings passed on. You might be unaffected if you’re a brolly contractor reading this, although it is payroll contractors -- not PSCs -- who typically want a simple, low-cost pension plan like this and so use NEST. Under it, pensions form part of your estate, meaning that IHT could be levied on unused savings.
Contractors who work with a professional adviser will generally be unaffected, as NEST isn’t a scheme that an adviser would use for personal arrangements, given its rather basic nature. But this month is expected to see the number of people on the scheme increase, reportedly due to a ban on transfers into it being lifted.
In my experience, most contractors will build up substantial assets over their careers and are a population who will be affected by IHT. So if you are on such a scheme, your first step should be to seek financial advice to understand your options and implications, longer term -- beyond this potentially taxing month.
Other April 2017 announcements
ISAs
Individual Saving Accounts are increasing to a maximum capacity of £20,000 tax-free, up from £15,240 currently. Tomorrow also sees the launch of the Lifetime ISA, with a maximum capacity of £4,000.
For these new accounts (‘LISAs’), which are designed to prop up property purchases or retirement funding, the government inputs an extra 25% bonus upon the saver taking the funds out, albeit only after the saver’s 60th birthday.
Junior ISA capacity is on the up too, so savers can stash up to £4,080 this year on behalf of their children, rising next year to £4,128.
VAT
The registration threshold for VAT increases to £85,000 (up from £83,000 now)
The deregistration threshold for VAT increases to £83,000 (up from £81,000 now)
Since Saturday (April 1st), the ‘limited costs trader’ category of 16.5% applies on the VAT Flat Rate Scheme.
Personal allowance
Contractors whose income is above £100,000 will have their personal allowance reduced, or cut entirely if they earn over £122,000. For those on incomes below those thresholds, the personal tax-free allowance increases to £11,500.
