A Crisis in the Small Print

01.01.08

A CRISIS IN THE SMALL PRINT

Never has a Pre-Budget Report been considered as important, as anticipated, and then as accurately leaked as that announced by Mr Darling on 24 November. It was felt that this had to be a vital bulwark against economic crisis. The overall situation has given the Chancellor virtually complete freedom to announce measures which would have been unthinkable even a few months ago, and in doing so we have moved into uncharted territory in relation to such matters as public borrowing.


Despite its designation as a "Pre-Budget Report", this was clearly a Budget in all but name, although the Government are currently resisting calls for a debate such as follows the Spring extravaganza.

But in relation to tax, some things have a strong whiff of old Labour about them, as well as a clear influence from the habits of the former Chancellor. In the latter category must be put the announcements of changes anticipating no change of Government for many years ahead - some of the announcements deal with tax years up to 2015-16. In the former category is the significant increase in tax and National Insurance announced for those earning large amounts, which in fact go far beyond the introduction of the 45% rate that had been so extensively trailed. And in the tradition of every modern Government is the need to look behind the headlines and the initial announcements, often to find rather more changes (usually expensive, at least for some, but also involving some relief) than might have been evident at first sight.

The following paragraphs highlight some of the more important changes which may affect you.

Brodies is ready, willing and able to assist you with any tax planning or problems you may have. Do contact one of us or your usual Brodies contact for further information or advice.

Isobel d'Inverno, Director of Corporate Tax
Alan Barr, Tax Partner

-----------------------------------

INCOME TAX AND NATIONAL INSURANCE

Never has it been more necessary to look at the whole package of income tax and National Insurance when assessing a set of tax changes. It is also necessary to look several years into the future, to a time when there will certainly have been at least one general election. One cannot imagine that some of the changes now put forward will ever form part of Conservative policy; that does not of course mean that they might not survive a change of Government, at least for some time.

The overall package represents a significant tax increase for high earners. With the National Insurance element to the fore, the definition of "high" might start around the £40,000 mark; but there are much higher rises for those earning more than £140,000. There are also significantly increased complications; and marginal rates on particular slices of income which can easily exceed 50%.

While there is some further alignment of National Insurance with income tax, it is far from complete - for example the overall take from £150,000 of earned income will far exceed that from the same amount of investment income. National Insurance is certainly even more important than it was, both as a source of general Government finance and for its impact on individuals. The temptation to increase the rate on ALL earnings from the original 1% (supposedly directed specifically at the Health Service) has finally proved too great, albeit not yet. And there is a nasty sting in the tail for many trusts.

2009-10
The changes for next year are relatively modest. A table of the new allowances, rates and National Insurance contributions follows. Both the basic personal allowance and the basic rate band have been raised by more than inflation. The basic personal allowance thus keeps its added increase from last year to cope with the abolition of the 10p rate, and gains a bit more besides, taking it to £6,475. The basic rate band also increases by £800 more than indexation, to £37,400 from £34,800. But the increase in this was heavily restricted last year, to prevent higher rate taxpayers benefiting from the increased personal allowance, so the increase is not as great as one might have expected over the two years.

Other allowances are merely increased with inflation. But there is a more significant immediate change in National Insurance, in that the upper limit for the main rate of Class 1 and Class 4 contributions increases to £43,875, an increase of £3,835. This is the same as the total of the personal allowance and the basic rate band, although the increase is much more than that in the basic rate band. Furthermore, the point at which one starts paying National Insurance contributions is not yet in alignment with the personal allowance of income tax, so NI is applied to a bigger slice of income than the basic rate band for income tax. The net result of all this is that much of the reduction in the amount at which 40% tax is paid is offset by an increase in National Insurance - to the greatest extent for employees (and their employers), next for the self-employed and not at all for those living off investments. It seems rather a negative move to stimulate employment in these hard times.

2010-11
There is one change touted for this year, more significant for its increase in complications (and as a matter of principle) than its tax-raising effect. This is the progressive reduction of the basic personal allowance. This starts for those with incomes over £100,000 (and there is no distinction between earned and unearned for this purpose) - the allowance will be reduced by £1 for every £2 of income above that level, until it comes down to half the basic personal allowance. The same process then starts again when gross incomes reach £140,000 and the allowance is reduced in the same way, this time until it reaches zero. This means that the marginal tax rate for the slice of income just above these thresholds of £100,000 and £140,000 will be well in excess of 50% - a point which may influence planning around these figures.

2011-12
The changes proposed for this year are far more extensive. There will be a new highest rate of tax, at 45% for incomes above £150,000, with a new highest rate of dividend taxation at 37.5%. All of the main National Insurance rates - Class 1 employers and employees, Class 4 and the additional rate which applies to all earned income above the Upper Earnings Limit will be increased by 0.5% (The last could be described as a 50% increase in the tax rate, from its current 1 %!).

And tucked away in the documentation was an announcement that the trust rate of tax and the dividend trust rate of tax would be increased to the same as the highest rate for individuals, 37.5% and 45%. These rates will apply to ALL income of appropriate trusts, without any benefit from a personal allowance, a basic rate band or a higher rate band of 40%. This seems a particularly unfair attack on what are often very modest trusts and may require careful planning by trustees in relation to the use of such income as they may have available.

All of the income tax and NI changes will require attention. At the most basic level, this will be to ensure compliance with a demanding and complex new regime. But there will also be both the scope and the necessity for planning, to see if there are actions which can be taken or restructuring which can be carried out, so as to minimise the effect of these changes. There is some time to plan (and no doubt for changes to be made, even if this Government were to survive to see these changes implemented).

Brodies can assist with all of these changes and your usual contact can point you in the right direction.

Income tax Allowances

£ per year (unless stated) 2008-09 Change2009-10
Income tax personal and age-related allowances    
Personal allowance (age under 65) £6,035+£440 £6,475
Personal allowance (age 65-74) £9,030+£460 £9,490
Personal allowance (age 75 and over) £9,180+£460 £9,640
Married couple's allowance* (aged less than 75 and born before 6th April 1935) £6,535+£330 £6,865
Married couple's allowance* (age 75 and over) £6,625+£340 £6,965
Married couple's allowance* - minimum amount £2,540+£130 £2,670
Income limit for age-related allowances £21,800+£1,100 £22,900
Blind person's allowance £1,800+£90 £1,890
Pension schemes allowances    
Annual Allowance £235,000+£10,000 £245,000
Lifetime Allowance£1,650,000+£100,000 £1,750,000

 

Income tax: rates and taxable bands

2008-09£ per year2009-10£ per year
Starting savings rate 10%* £0-£2320 Starting savings rate 10% £0-£2440
Basic rate: 20%* £0-£34,800 Basic rate: 20%* £0-£37,400
Higher rate: 40%* Over £34,800 Higher rate: 40%* Over £37,400
    
* There is a 10p starting rate for savings only. If an individual's non savings taxable income exceeds the starting rate limit, the 10p starting rate for savings will not be available for savings income.    

 


National insurance contributions

£ per week (unless stated) 2008-09 Change2009-10
Lower earnings limit, primary Class 1 £90 +£5 £95
Upper earnings limit, primary Class 1£770 +£74£844
Upper Accruals Point N/A N/A £770
Primary threshold £105 +£5£110
Secondary threshold£105 +£5£110
Employees' primary Class 1 rate between primary threshold and upper earnings limit 11%- 11%
Employees' primary Class 1 rate above upper earnings limit 1% - 1%
Employees' contracted-out rebate - salary-related schemes 1.6% - 1.6%
Employees' contracted-out rebate - money-purchase schemes 1.6% - 1.6%
Married women's reduced rate between primary threshold and upper earnings limit 4.85%- 4.85%
Married women's rate above upper earnings limit 1% - 1%
Employers' secondary Class 1 rate above secondary threshold 12.8% - 12.8%
Employers' contracted-out rebate, salary-related schemes 3.7% - 3.7%
Employers' contracted-out rebate, money-purchase schemes 1.4% - 1.4%
Class 2 rate £2.30 +£0.10 £2.40
Class 2 small earnings exception (per year) £4,825 +£250 £5,075
Special Class 2 rate for share fishermen £2.95 +0.10 £3.05
Special Class 2 rate for volunteer development workers £4.50 +£0.25 £4.75
Class 3 rate (per week) £8.10 +£3.95 £12.05
Class 4 lower profits limit (per year) £5,435 +£280 £5,715
Class 4 upper profits limit (per year) £40,040 +£3,835 £43,875
Class 4 rate between lower profits limit and upper profits limit 8% - 8%
Class 4 rate above upper profits limit 1% - 1%
    



VALUE ADDED TAX

Every newspaper in the land (which will all remain zero-rated for VAT) seemed to know on the morning of 24 November that the standard rate of VAT would be reduced from 17.5% to 15%. This duly came true, with the change taking effect from 1 December 2008. The change is scheduled to last for 13 months.

This is presumably in the hope of stimulating a full advent of additional Christmas spending, a hope that Mr Darling turned into an exhortation to retailers in his speech itself. The exhortation is repeated in material issued by HMRC, but with a grudging admission that "ultimately decisions on prices charged by business and paid by consumers are for them rather than the Government". One wonders whether this is REALLY going to have an effect - who at the moment would rush to buy on the offer of a 2.5% discount? (Or, to be pedantic, given the way that VAT works, a 2.13% discount!)

For sales of standard rated goods and services on or after 1 December, VAT should be charged at 15%; this means that the VAT fraction to be applied to VAT inclusive prices changes from 7/47 to 3/23. It has been some while since a change to the standard rate and perhaps people have forgotten the administrative difficulties it can cause. The rules about tax points become important - for example, for cash businesses, the new rate will be applied to all receipts from 1 December, except where payment is being made for something delivered before that date (when the old rate must be applied).

For businesses operating with invoices, the change will affect invoices issued on or after 1 December, unless payment was made before 1 December, or the goods or services were provided more than 14 days before the issue of the invoice (when the old rate must be applied). For continuous supplies of goods or services, the date of issue of the invoice or the date of payment, if earlier, will be relevant. And there are special rules (including an option as to which rate to charge on payments received or invoices issued) for supplies which span the change of rate. This may involve the possibility of re-calculating VAT at the new rate and issuing an appropriate credit note - which is itself subject to administrative requirements (such as being issued within 45 days after 1 December).

There are no significant changes to the rules on VAT which can be reclaimed - if invoices issued after 1 December still show VAT at 17.5% (which many will do, at least initially), then all of this can be reclaimed.

In terms of paying VAT to HMRC, it will be necessary to add together the amounts chargeable at each rate. HMRC are rather blasé about the amount of work which may be required by businesses affected by the change, particularly in relation to software and point of sale (till) changes that may be required. However, they promise to apply a "light touch" in relation to errors made in the first return after the change.

There are no changes made to the Cash Accounting and Annual Accounting Schemes; but new percentage rates have been issued for businesses in some (but not all) sectors which operate a Flat Rate Scheme.

As can be imagined, there is a very wide range of situations in which the change of rate needs to be dealt with. HMRC have issued guidance on many of these, covering such matters as fuel scale charges, the agricultural flat rate scheme, coin operated machines, leases and sales of land, imports, exports, investment gold and much else besides. There is even special guidance for solicitors!

There is also warning of legislation to come to forestall avoidance, which HMRC perceive as being possible at the end of the period of VAT reduction by putting through transactions with a 15% VAT rate which should actually be charged at the restored standard 17.5%. One can foresee this being complex and quite capable of catching innocent and guilty alike.

The change is being introduced in an incredibly tight timescale and businesses will have to react quickly. If you require any further advice, your usual contact at Brodies will point you towards the right person to assist.

BUSINESS PAYMENT SUPPORT SERVICE INTRODUCED

To assist businesses affected by the current economic conditions, HMRC have set up a Business Payment Support Service which can help businesses by arranging for any payments due to HMRC, (including tax, national insurance and VAT) to be made over a longer period to assist cashflow. It appears that penalties can be avoided but interest will still be charged under these arrangements. Those affected can contact the HMRC Business Payment Support Line on 0845 302 1435. The line is open Monday - Friday 8.00am to 8.00pm and Saturday and Sunday 8.00am - 4.00pm.

CORPORATION TAX RATE FOR SMALL COMPANIES TO REMAIN AT 21%

The planned increase in the rate of corporation tax payable by small companies, ie those with profits lower than £300,000, was due to rise from 21% to 22% from 1 April 2009. This change has been deferred until 1 April 2010. This is welcome news for small companies.

LOSS RELIEF CARRY BACK EXTENDED TO THREE YEARS

Loss making businesses can currently carry back losses against the preceding year's profits and claim tax repayments. For a temporary period, the carry back is to be increased to three years. Losses will first be offset against the preceding year's profits, and then up to £50,000 of any remaining losses can be claimed against the profits of the earlier two years. Companies can make claims for losses arising in accounting periods ending in the period 24 November 2008 to 23 November 2009. Unincorporated businesses can claim as soon as they have calculated the loss relating to the tax year 2008-2009. HMRC will make repayments on or after Budget Day 2009.

INCOME SHIFTING PROPOSALS DEFERRED

Following the Arctic Systems case, the Government has been reviewing arrangements which are perceived to involve benefitting financially from shifting part of their income to someone else who is subject to a lower rate of tax, known as income shifting. The Government has consulted on this issue, but given the current economic challenges is deferring action on income shifting and will not bring forward legislation at Finance Bill 2009. The Government will instead keep this issue under review.

EMPTY PROPERTY RATE RELIEF IN ENGLAND

The Government is temporarily increasing the threshold at which an empty property in England becomes liable for business rates. For financial year 2009-10 empty properties with a rateable value of less than £15,000 will be exempt from business rates - exempting an estimated 70 per cent of empty properties. This follows a campaign by the BPF and others for the complete removal of rates for empty properties. It should be noted that empty properties in Scotland still benefit from full rates relief.

TAXATION OF FOREIGN PROFITS RE-EXAMINED

Following widespread controversy and the decision by a number of major multinational groups formerly based in the UK to relocate their headquarters to Ireland and elsewhere, the Government has proposed a package of measures to introduce an exemption for UK tax on foreign dividends and a review of the legislation relating to controlled foreign companies. The aim is to ensure a territorial approach so that profits genuinely earned overseas will not be taxed in the UK.

REGISTERED PENSION SCHEME INVESTMENT ALLOWANCES FROZEN

Those saving into a tax efficient registered pension scheme should be aware that the annual and lifetime investment allowances will be frozen at their 2010/11 level (£255,000 and £1,850,000 respectively) for five years, until 2015/16. This is bad news for pension holders who have planned their contributions in anticipation of continued increases to the limits. Those affected should review their investment strategies to ensure that they do not exceed their allowances and incur charges.

Useful Links

HM Revenue & Customs

HM Treasury