John Rouse, partner in Lodders’ Private Client team and tax planning specialist, reflects on what the future of personal taxation may look like post-Covid-19.
As the Covid-19 lockdown begins to ease, many observers are forecasting an economic recession. With a combination of increased government spending through the furlough scheme and to deliver other economic stimulus, government coffers will be somewhat depleted and stretched, and doubtless HMRC will be looking at ways to help fund increased public spending.
The government and HMRC will have difficult choices ahead on how to fund increased spending and for private individuals, there could well be an effect on personal taxation in the future as a result.
Whilst none of us has a crystal ball to know precisely how the government and HMRC might fund this, looking back to the last major recession – the banking crisis – we should explore if there any hints of what could happen now.
Income tax is always seen as a political hot potato come election time. Many headlines are written around potential increases in income tax and therefore political parties have always erred on the side of caution in increasing income tax rates.
The rates of income tax have stayed fairly consistent with basic rate tax and higher rate tax remaining the same. The main change after the last crisis saw the introduction of a top rate of 45%. It would be a brave government that would look to increase any of the rates of income tax. In the past, income tax has been altered by changing the thresholds of when income tax becomes payable, and the levels at which higher rate and top rate tax kicks in.
Whilst it is difficult to see any reduction in allowances, perhaps the thresholds might be frozen.
The matter of tax relief on pensions has always been a tricky issue. As a private client adviser, it has always been difficult to give clear advice on pensions, bearing in mind every five years or so there seems to be a set of pension simplification rules that seem only to complicate matters further. A possible method of raising tax revenue could be the reduction or removal of income tax relief on pension contributions, but given that the big thrust of recent times has been to encourage people to save for their retirement, removing tax relief for anyone other than the highest rate tax payers would appear to discourage people to save for their future.
Capital Gains Tax
Capital gains tax (CGT) has varied considerably in the past. This has often wavered between matching basic rate income tax and higher rate income tax. There are powerful arguments that capital gains tax rates should match income tax rates. Following that line could mean a potential higher rate of CGT to match higher rate tax of 40% or even 45%. In reality, that looks unlikely. However, at present it is widely believed that capital gains tax will not be lower than it is currently, and in the future, the only way is up!
Two areas of capital gains tax that have been tightened are Entrepreneur’s Relief and residential property.
Capital gains tax Entrepreneur’s Relief (ER) is available on the sale of businesses where capital gains tax is reduced to 10% on gains. The last budget saw ER reduced from the first £10 million of gain to the first £1 million of gain.
In addition, the last couple of years have seen the new rate on the disposal of residential properties of 18% and 28%. One of the reasons this was introduced was to help cool the housing market, especially for buy-to-let properties given the number of first-time buyers who couldn’t get on the housing ladder.
Given the unknown effects the Covid-19 pandemic will have on the housing market, whether those rates stay, reduce or even increase, will depend on the government’s view on whether they wish to stimulate the housing market, or not.
For those looking to carry out medium to long-term planning and to sell or transfer assets, it is unlikely we will see lower capital gains tax rates. In fact, it is more likely rates will rise.
Inheritance tax became a very political tax around the time of the last financial recession. The net effect of the financial crisis in 2008 was that the inheritance tax threshold of £325,000 was frozen and has not increased since, with seemingly no scope for this to be increased moving forward. In addition, the annual gift allowance of £3,000 and allowances for gifts in consideration of marriage have stayed at the same level for many years. In real terms, this has meant a reduction in inheritance tax allowances over time.
One major change to inheritance tax was the introduction of the Residence Nil Rate Band, where people wishing to leave their home to their children/grandchildren would benefit from a further tax allowance of £175,000.
However, history tells us that inheritance tax is seen as a tax on unearned income/assets and mainly applying to the reasonably well-off and, as such, it would seem likely that inheritance tax thresholds and allowances, whilst not reducing, will probably be frozen for the foreseeable future.
One area HMRC may look at is the availability of inheritance tax relief. Farmers and farmland attract inheritance tax relief of up to 100% on the agricultural value of farmland. Similarly, trading businesses attract 100% tax relief on the value of the business.
Before the Coronavirus crisis, a review of inheritance tax was launched. The initial report did mention the possible removal of tax relief on farmland and businesses. The feeling amongst tax planners at that time was that such measures would probably fall by the wayside as the review proceeded, however, that could be one area where inheritance tax receipts could be increased without any increase in basic thresholds.
A common form of inheritance tax planning that has grown over the last decade or so has been the ability to invest in assets which qualify for Business Property Relief (BPR), either through Alternative Investment Market, shares, or via specialist investment houses providing unit trusts/collective investments and opportunities to invest in portfolios of trading businesses shareholdings attracting 100% tax relief. This has become a very popular form of inheritance tax planning as it allows individuals to retain their capital, but with investments which qualify for 100% relief.
On the face of it, this would seem an easy way to increase revenues, by removing or reducing BPR. However, one of the beneficial side effects of BPR and these types of investment is the fact that the availability of BPR schemes has allowed significant amounts of cash to be released from private individuals and businesses into the market to be invested into small businesses in place of bank lending.
Stamp Duty Land Tax
Stamp Duty Land Tax (SDLT) has increased over the last few years, the main increase being the introduction of a new charge for second homes. This additional charge was seen as a method of cooling the housing market to reduce the attractiveness of buying second properties and the buy-to-let market, in favour of greater home ownership. If the government wish to stimulate the housing market, they may consider reducing that additional SDLT rate, but again, that would have the effect of reducing tax revenues and also be politically sensitive.
Overall, there seems to be few easy wins. Perhaps the best methods might be the juggling of thresholds and allowances here and there whilst striving to keep headline tax rates the same.
For private individuals, the broad conclusions are difficult to spot but there seems little scope to increase income tax and inheritance tax thresholds. In contrast, it is generally believed unlikely for tax on capital gains to be any lower than at present.
In summary the scope for tax changes is limited but it appears likely that the tax regime is unlikely to be easier than at present. Therefore the time to act is now for private clients, especially considering the effect of Covid-19 on the rules of personal taxation have yet to be put in place.
For more information on Lodders’ tax planning services, please contact John Rouse on 01789 206167, or via email.
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