The end of the financial year is fast approaching for UK taxpayers – including expats who may live overseas but are still tax residents.
It’s important to make the best of any available tax breaks that allow taxpayers to keep their money in savings or investments rather than handing too much to the tax man.
Here are six of the most common tax breaks for UK expats and their families explained – and don’t forget if you don’t use the allowances, then you may lose them.
Your personal allowance is how much you can earn a year without paying income tax. The limit for 2017-18 is £11,500.
Small businesses can pay family or friends up to £11,500 a year without deducting tax providing the payee does some work and the payment for what they do is what anyone would expect for the job.
That means paying the going rate and keeping records.
Don’t forget national insurance is triggered at a lower rate than income tax – £8,164 this year.
Paying between £5,876 and £8,164 is NIC free but counts as a credit towards the state pension.
For spouse shareholders in small firms, a dividend of up to £45,000 can be paid before hitting the higher rate of tax. Pooling the personal allowance, dividend allowance and basic rate band means paying income tax of £2,137 on the income.
Child benefit clawback
For those earning £50,000 a year or more, watch out for the higher income child benefit charge.
This grabs back child benefit at 1% of benefit claimed for every £100 of income over £50,000.
I say, I say…don’t forget ISAs
Everyone in the family has a £20,000 ISA allowance for the year.
The personal saving and dividend allowances couple with woeful interest rates mean cash ISAs give savings a lower boost than in previous years.
Check out the range of ISAs and the specific rules that apply before plumping for an investment – the range can be confusing from innovative finance ISAs (IFISA) through lifetime ISAs to cash or stocks and shares ISAs.
But investments grow tax-free, and no tax is charged on cash withdrawn. – and this applies to lifetime ISAs as an alternative to a pension or if you have some cash to spare after taking up your annual pension contribution.
If you celebrate your 40thbirthday after April, then the window is closing for a lifetime ISA – so open a plan and just pay in a minimum contribution to gain the tax break – you can always top the account up later.
IFISAs allow investors to earn tax-free interest from peer-to-peer lending but can double up on the personal saving allowance. The allowance lets investors earn £1,000 a year tax-free from interest on loans and savings.
If you have no savings, the allowance is equivalent to investing £20,000 a year in P2P lending at a rate of 5%.
Saving with a pension
High earners with an income of £100,000 or more need to take care when stashing more cash in a pension.
Although pensions are a great way to grow savings, pensions come with limits.
The gross contribution reduces income and tweaks the effective income tax rate up from 45% to 60% for incomes between £100,000 and £123,000.
For taxpayers with a pensionable cash windfall, the annual allowance is worth looking at. For anyone earning less than £100,000, the annual contribution limit is £40,000 – above this level, the limit falls depending on earnings to as low as £10,000. Exceeding the limit triggers a claw back charge.
But, carry back allows a pension saver to contribute the total of their unused annual allowance for three years without any penalty.
Contributing to a pension is not necessarily about topping out the annual allowance, but how much should someone contribute.
It’s best to contribute enough to gain tax relief at the highest rate.
The formula accountants and financial advisers work to is Total Income – £45,000 x 80%.
How the dividend allowance works
This tax year’s dividend allowance is £5,000, but the rate is slashed to £2,000 from April 2018.
Don’t fall for the double dividend tax trap – although dividends totalling less than £5,000 are free of income tax, they count as earnings for child benefit and the personal allowance abatement charge for pension savers earning more than £100,000.
If you run a small company, set your dividends to use the tax-free allowance.
The allowance also extends the ISA allowance as income paid from shares held personally is not taxed although growth in value is as capital gains tax.
Enter Dragon’s Den
Tax incentivised investments are hugely popular – but a risky place to keep cash you can’t afford to lose.
The investments are government backed and stretch across several schemes– the Enterprise Investment Scheme (EIS), the Seed Enterprise Investment Scheme (SEIS) and Venture Capital Trusts (VCT).
Each offers a different path into investing in start-up or growing companies.
The difference between the schemes is the amount an investor can stake, the tax breaks offered in return and the term of the investment.
For instance, SEIS gives an income tax refund of 50% of the investment up to a limit of £100,000 in the tax year. EIS allows bigger investments but coupled with a 30% tax refund.
VCTs also come with a 30% tax refund.
EIS and SEIS investments are for a minimum three years, while VCT investments are for five years.
Investing in one or all three does not impact on the annual allowance for pension contributions or ISAs – they are all standalone deals.
All the schemes allow capital gains tax free growth, while EIS and SEIS come with other tax incentives to reduce investment risk – plus a carry back option to the previous year.
The range of start-up companies for EIS and SEIS is expected to reduce from April as the government is considering restricting investments to knowledge-based companies.
Tax breaks for expats
If you are a British expat abroad, you still qualify for the allowances and reliefs discussed above providing you remain UK resident for tax.
Tax residence is not optional but depends on several factors covered in the statutory residence test.
Your personal circumstances dictate if you pass or fail the test.
Pensions for expats
Expats who are UK resident can still benefit from the tax breaks that come with a SIPP pension – like tax relief on contributions and the option to start drawing down cash from the age of 55 years old regardless of if you have retired or not.
Non-resident expats have a different retirement saving route with a specialist QROPS offshore pension that is based on the same blueprint as a SIPP but comes without the UK tax relief on contributions.
Not all non-resident expats qualify for a QROPS, but rules apply that can see an overseas transfer charge that amounts to 25% of the value of the fund switched into the offshore scheme.
In Europe, providing the expat and the QROPS are based in an European Economic Area nation – but not necessarily the same one – there is no transfer charge.
Outside Europe, the retirement saver and QROPS must be based in the same country to avoid the transfer charge.
The charge only relates to personal QROPS – most workplace and official schemes are exempt.