Maximising allowances

Are you making the most of the tax allowances available?

Each tax year presents a new opportunity for you to minimise the tax you pay, but knowing where to start can be challenging.

With prior planning you can make use of these valuable allowances whilst avoiding the mad rush in the run up to the tax year end. 

What is tax free income?

Every individual is entitled to receive a certain amount of income before they start to pay tax. There are three main income tax allowances:

1. Personal Allowance 2024/25 - £12,570
2. Dividend Allowance 2024/25 - £500
3. Personal Savings Allowance 2024/25 - which is £1,000 for basic rate taxpayers, £500 for higher rate taxpayers and nil for additional rate taxpayers. 

How much is your personal tax allowance?

The personal allowance gives you the opportunity to earn £12,570 of income before paying tax.  This covers income from all sources including, salary, dividends, savings interest and pension income.

The dividend allowance only applies to income you receive in the form of dividends. This means that you can receive income of up to £500 from shares and some equity-based collective investment funds without paying any tax.

This is also a useful allowance for business owners, who can pay themselves a tax-free income of £500 in the form of a dividend.

The personal savings allowance applies to savings interest and income from some collective investment funds. It allows you to earn a small return on your cash savings and fixed interest investments without the need to pay tax.

Any income you earn in excess of these allowances will be taxed at the following income tax rates if you are subject to English or Welsh rates of tax (and on your savings and dividend income if you are a Scottish taxpayer):

Table Disclaimer: If you reside in Scotland, different tax bands and rates of tax apply to your non-savings and non-dividend income.  

Restoring your personal income tax allowance

Not everyone is entitled to the full personal allowance. If your income exceeds £100,000, the allowance is reduced by £1 for every £2 of income you receive above £100,000.

So on earnings of between £100,000 - £125,140 – your effective income tax rate is 60%. This is because for every £100 of income between £100,000 and £125,140, £40 is taken in Income Tax (40%) and another £20 is lost because your Personal Allowance has been reduced - so you’ll pay an extra 20% that you wouldn’t if you retained your full Personal Allowance. Therefore, you’ll only take home £40.

If your allowance has been reduced as a result of your income exceeding £100,000, it may be possible to restore some of your losses by making a pension contribution.

This is because the gross pension contribution you make can be deducted from your other income when calculating the amount of personal allowance you are entitled to.

For example, if you have income of £110,000 you will lose £5,000 of your allowance.

However, if you make a gross pension contribution of £10,000 your income will effectively reduce to £100,000, meaning that you will be entitled to the full personal allowance.

How to reduce your capital gains tax bill 

Capital gains tax (CGT) is the tax due when you dispose of assets that have increased in value. Disposing in this context can mean the selling or gifting of assets.

Every individual is entitled to a tax free CGT exemption of £3,000 in 2024/25, after which any further capital gains are taxed at the following rates: 

Basic rate - CGT rate (10%). Residential property (18%) 

Higher and additional rate tax bands - CGT rate (20%). Residential property (28%) 

The CGT exemption is a ‘use it or lose it’ exemption, meaning that any unused amount cannot be carried forward to be used in a future tax year. This makes it important to ensure that you are using the exemption each year where possible to gradually reduce any capital gains in a tax efficient manner.

Where you are married or in a civil partnership, you have the opportunity to double the CGT exemption available to you. 

This is because transfers between spouses are exempt from CGT, meaning that you can pass assets between husband and wife or civil partners to use both CGT exemptions.

Any transfers must be genuine and unconditional gifts from one party to the other.

If you have previously made a loss when disposing of an asset, this can be used to offset any future capital gains.

Losses must be claimed from HMRC within the 4 tax years after the tax year in which the loss occurred but, once claimed, can be carried forward indefinitely to offset future capital gains.

Topping up your ISA

The attraction of an ISA is that any income and capital gains produced by cash or investments held within your ISA are tax free.

When can you top up your ISA? 

You can top up your ISA at any point during a given tax year.  The maximum amount that an adult can contribute in 2024/25 is £20,000.

If eligibe, you have the choice to split your allowance between: 

• Cash ISAs
• Stocks & Shares ISAs
• Innovative Finance ISAs
• Lifetime ISAs (limited to £4,000 per year)
• Help to Buy ISAs, if you opened one before 30 November 2019 (limited to £3,400 in the first year and £2,400 thereafter) with no more than £200 per calendar month though.

Children's savings accounts

You can build a pot of money for your children by contributing to a Junior ISA (or Child Trust Fund, depending which account your child is eligible for).

The Junior ISA (and Child Trust Fund) allowance in 2024/25 is £9,000 per child and does not affect your personal ISA allowance.

You can choose between a Cash or Stocks and Shares Junior ISA for your child, or alternatively have one of each. 

Are children's savings accounts tax free? 

As long as their annual income (including any interest) is below their Personal Allowance for Income Tax (£12,570 in 2024/25), there’s no tax to pay.

Utilising your pension allowance

There is a maximum amount that you can contribute personally to a pension and receive tax relief on each year.

The maximum amount is the higher of £3,600 and your relevant UK earnings (such as salary and bonus).

There is also a cap of £60,000 called the annual allowance which takes into account contributions from all sources, employer included. If the annual allowance is exceeded you will be taxed on the excess. 

However, those with ‘adjusted income’ (includes all taxable income: salary, bonus, P11d, employer and salary sacrifice pension contributions, dividends, interest) above £260,000 will see their annual allowance reduced by £1 for every £2 of excess income.

The maximum reduction is £50,000, resulting in a minimum annual allowance of £10,000.

To be affected, the person’s ‘threshold income’ must exceed £200,000¹.

If eligible, you can carry forward any unused allowance from the three previous tax years to increase your annual allowance in the current year, subject to certain conditions.

Understanding how much you can pay into a pension, particularly if you have income over £200,000 and/or are a member of a final salary pension scheme, can be complicated. If you think you may be affected by the tapered allowance contact us and speak to an adviser.

In addition to the relative income tax benefits explained above, any income and capital gains generated by the investments held within your pension accumulate tax free.

The funds held within your pension are also generally free from inheritance tax.

Utilising your family’s pension allowances

You can make further pension savings for your family, including your children, without affecting your own allowance.

Making a contribution on behalf of a family member allows them to benefit from tax relief, even if they are a non-taxpayer. 

The maximum tax-relievable contribution for an individual with no earnings is £3,600. This is the gross amount, meaning that you can contribute £2,880 and your provider will reclaim £720 from HMRC.

Lifetime Allowance

Before it’s abolition in April 2024, the Pension Lifetime Allowance (LTA) was a limit on the amount of pension benefits an individual could accumulate over their lifetime without incurring an LTA tax charge.

An individual would be ‘tested’ against this allowance at various points in time, such as when they begin taking certain benefits, or when reaching the age of 75 for example.

Coinciding with the abolition of the LTA we have seen two new allowances introduced on 6 April 2024.

The Lump Sum Allowance limits the amount of tax free lump sum withdrawals you can take from your pension plans during your lifetime.

The maximum amount which you can take will typically be £268,275, although some people may be able to take a higher amount.  

The Lump Sum and Death Benefit Allowance restricts the value of tax free lump sum benefits which can be paid to any beneficiaries who inherit your pension if you die before your 75th birthday.

For most people this limit will be £1,073,100 and any tax free lump sums you received during your lifetime have to be deducted from this allowance.

Any lump sums which are paid to your beneficiaries which exceed the available allowance will be subject to income tax at the beneficiaries marginal rate.

If your beneficiaries decide to move their inherited pension fund into a beneficiary or nominee drawdown arrangement and take an income at a later date, there will be no excess charge applied to the fund regardless of the value of the pension pot they inherit. 

Is money from an estate taxable? 

All assets from an estate are included in the initial estate valuation. Non-exempt gifts to other individuals and trusts also count towards your estate for inheritance tax purposes, unless you survive for seven years after the gift was made. 

However, there are a variety of exemptions available to those looking to reduce the value of their taxable estate. These include:

• Annual gift exemption
• Small gifts
• Normal gifts out of income

How to reduce your estate tax bill?

There are a variety of exemptions available to those looking to reduce the value of their taxable estate.  These include: annual gift exemption, small gifts and regular gifts out of income.  The annual gift exemption allows you to gift up to £3,000 each tax year.  In addition, donations to charity and tax-relieved investments are also tax-efficient ways to reduce your estate tax bill.

Any unused exemption can be carried forward for one year as long as the current year’s allowance is also fully used, meaning that a maximum of £6,000 could potentially be gifted.

Any gift of £250 or less is classed as a small gift and is exempt from inheritance tax. However, this does not include a gift to an individual who has already benefitted from your annual exemption or any other larger gift.

If you gift at least 10% of net estate to charity on death, as well as the gift to charity being IHT-exempt, the IHT rate reduces to 36% on the taxable estate.

Charitable giving

Giving money to charities can help you to do good for others, whilst reducing the amount of tax you pay.

When you make a gift out of taxed income, the charity benefits by claiming basic rate tax on the value of the gift.

If you are a higher or additional rate taxpayer you can reclaim the additional tax relief, which will be 20% for higher rate and 25% for additional rate.

As an example, an £80 donation is worth £100 to your chosen charity. A higher rate taxpayer can then claim an additional £20 of tax relief on the gross donation of £100, which effectively reduces the cost of the gift to £60.

If you decide to gift assets such as shares, land or property to a charity, any capital gain arising on the disposal of the asset will not be subject to CGT.

The gift itself is also exempt from inheritance tax.

Reducing your tax bill with tax-relieved investments

An investment into a qualifying Venture Capital Trust (VCT), Enterprise Investment Scheme (EIS) or Seed Enterprise Investment Scheme (SEIS) attracts significant tax benefits.

These investments were created by the government as an initiative designed to help small and medium sized companies raise finance by offering tax benefits to investors. Given the type of companies they invest in, they are perceived to be high-risk investments.

Some of the main tax benefits associated with qualifying investments are shown below:

These tax benefits can be contingent on certain criteria being met, such as a minimum holding period. It is therefore important to seek professional financial assistance when considering an investment of this type. 

Is there a tax benefit to owning a home?

First time buyers saving towards a deposit on a home can gain valuable tax benefits by funding a Lifetime ISA.  Any individual aged between 18 and 39 can contribute up to £4,000 per year to a Lifetime ISA.  The government will also top up your savings by 25% each year.

Main residences are exempt from Capital Gains Tax when disposed of. You will also benefit from the additional main residence nil rate inheritance tax band (£175,000 for 2023/24 tax year) if you own your home and it is passed down to direct lineal descendants on your death. Taking a proactive approach to minimising the tax you pay each year can have a significant impact on the success of your long-term financial plan. 

Please note: The Financial Conduct Authority does not regulate estate planning, tax advice, wills or trusts. The value of investments can fall as well as rise. You may not get back what you invest.

If you think you may be affected by the complications of the various tax allowances why not speak to an adviser and arrange a free initial consultation today!

Arrange a free initial consultation

References 

1. This is total taxable income as above but excluding all pension contributions and including income sacrificed for employer pension contributions under salary sacrifice agreements put in place from 9/7/15 onwards