Ronnie Ludwig: Personal allowance increase financed by bringing more into higher rate

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FOR a Budget with few real headline-grabbers there were a few nasty surprises lurking in the undergrowth for millions of taxpayers.

It was a long-standing government pledge to increase the personal allowance to £10,000 and this will be achieved from April 2014. This measure will increase spendable incomes by £700 a year compared to three years ago, which we should all feel happy about. However, the reality is that this is no increase at all when the effects of inflation over the last three years are factored in. While this is good news for the lowest paid – some three million of whom will pay no tax at all – the effects of fiscal drag, whereby tax allowances and reliefs have not kept up with inflation, will mean this change is financed by bringing more people into higher rate tax, even though their incomes have not increased in real terms.

As announced in the Autumn Statement in December, from next April the maximum annual contribution to a pension will be lowered to £40,000 a year. Combined with the reduction in the total pension lifetime allowance to £1.25 million, this move sits awkwardly with the government’s aim for us all to save more for our retirement.

As a result, other investment products, such as individual savings accounts (Isas) will inevitably become more popular. With Isas you don’t get tax relief on the contributions made, but all the income and gains generated within the Isa are tax-free. These can roll up into a substantial sum over a period of years, and the cash is much more accessible than when it is locked into a pension fund which you cannot touch until you retire.

As always, there were some unwelcome changes hidden in the Budget report which, understandably, the vast majority of people do not read. One such change will stop certain debts being deductible against inheritance tax on death. For most people this will not affect obtaining a deduction for the mortgage on their home, but it could do so if the cash from that mortgage has been used to invest in a family business which is itself exempt from inheritance tax. This could affect a very large number of people who have been forced to mortgage their homes in order to provide financial support to their businesses in the recession. We await the draft rules to see how far they go.

We also had the government’s response to recent high-profile cases of artificial tax structuring, in an environment in which genuine bespoke planning is perceived to be on a par with “morally repugnant” tax avoidance. The government’s continued drive in this field has led to a general anti-abuse rule (GAAR) being introduced with effect from July. The aim of the GAAR is to counteract abusive tax advantages and it will be interesting to see just how HM Revenue & Customs intends to flex this powerful new muscle. As currently drafted it could end up causing more problems than it solves for HMRC as a lot of the wording is sloppy, subjective and lacking a clear definition.

• Ronnie Ludwig is a partner at Saffery Champness chartered accountants in Edinburgh

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