By: STEVE RODGERS
Steve Rodgers is International Financial Planning Adviser with Blacktower Financial Management Group.
THE UK Chancellor of the Exchequer, Alistair Darling, presented his first Budget on March 12 with most of the changes coming into effect on April 6.
There was little in the way of surprises with the main emphasis of his speech supporting ‘stability’. Most of the changes had already been announced in previous Budgets or extensively trailed in the press in recent months. Given the Chancellor’s lack of room for manoeuvre between potentially growth damaging tax rises and a widening deficit, such a neutral Budget was always likely.
For readers who are UK tax residents, there were of course a number of changes that will have an immediate and noticeable effect, including tax increases on cigarettes, alcohol and Vehicle Excise Duty.
There is a two per cent reduction in the basic rate of income tax from 22 per cent to 20 per cent. However, the 10 per cent rate is removed for earned income and pensions but retained for savings income.
Perhaps more significantly though is the much previously debated announcement of a flat rate of Capital Gains Tax (CGT) at 18 per cent. For most higher rate tax payers this will mean they pay less CGT on realised gains under the new regime.
Previously, depending on the level of taper relief available (and ignoring indexation allowance) CGT was paid at somewhere between 24 per cent and 40 per cent.
Taper relief and indexation allowance have now been scrapped. Thankfully though, some relief has been given to owners of private businesses. The changes would have meant that someone selling their business would have seen the CGT charged increase by as much as 80 per cent!
Conditions
Following strong representations, the Government announced that the first one million pounds sterling of cumulative qualifying lifetime gains will continue to be taxed at an effective rate of 10 per cent, with only those gains above one million pounds sterling attracting a rate of 18 per cent.
Of course, as you would expect, a number of conditions need to be satisfied to qualify for this new relief – for example, the business must be trading and the individual needs to own at least five per cent of the shares. Also the one million pounds sterling allowance is a lifetime allowance – not a ‘per business’ allowance.
Nevertheless, this is good news for anyone planning on selling their UK business and moving to Portugal.
The changes to CGT have also sparked debate over whether it is still suitable for investments to be held within an Investment Bond.
Certainly UK investment bonds suffer internal tax on capital gains, and a higher rate tax payer will pay 20 per cent income tax on gains arising from encashment. Therefore, it could be argued that on-shore UK investment bonds cease to be tax effective compared to the flat rate of 18 per cent CGT if the investments are held directly.
But readers should not confuse this statement with the position for off-shore investment bonds which in most instances continue to be a highly tax-efficient method of holding investments for UK tax residents and expatriates alike.
Dependent on the jurisdiction in which the bond is based, there is little or no tax paid within an offshore bond. The individual has no tax liability until encashment occurs and even then there are exemptions.
UK tax residents are allowed to withdraw up to five per cent per annum (cumulative) without having to declare the amount withdrawn on their tax return. This can continue for up to 20 years. The rules for Portuguese tax residents are even more favourable as there is no annual limit to the amount that can be withdrawn. It is only once total withdrawals exceed 100 per cent of the amount invested that any liability to CGT in Portugal might arise.
Careful planning
Most importantly, investment bonds allow the investor to plan when any tax might be due. In some circumstances it may even be possible to arrange encashment in a ‘window’ where the individual is not tax resident anywhere.
However, this requires very careful planning and for some is not a practical option as they wish to remain resident in their new home country.
Investment bonds have other attractions, including the ease with which they can be used in trusts. The fact that they are non-income producing assets, make them ideal for trust arrangements as it simplifies the administration.
Bonds can be assigned or gifted into trust without a tax charge, whereas a direct holding will create a CGT liability at that time.
Also, investors who want the flexibility to switch investment funds over the medium to long term, consolidating gains or to reflect a change in personal circumstances, can do so tax-free within an offshore bond. The compounding effect of this tax free switching can result in higher gross returns, allowing for more scope for tax savings on encashment.
If an individual holds an investment portfolio directly and is in receipt of dividends or interest, these payments are taxed as income.
However, such payments within an offshore bond are mostly tax free and can be paid to the investor as a withdrawal within the tax-free limits mentioned above.
If the portfolio includes ‘non distributor’ funds (most hedge funds will form this category) then any income will be charged at income tax rates. Therefore again an offshore bond will shelter the returns.
The Budget raised the starting point of UK IHT liability from 300,000 pounds sterling to 312,000 pounds sterling. Don’t forget that most expatriates are likely to retain UK domicile and therefore be liable to UK IHT on their worldwide assets. Again, offshore bonds, in conjunction with specialised trust arrangements, can be utilised to substantially reduce or mitigate any IHT liability.
Please contact Steve Rodgers of Blacktower Group for further information. Call 289 355 686 or email steve.rodgers@blacktowerfm.com
