Amid the frenzy of the general election, and the ramifications of its result, it’s no surprise that the focus on the new government’s legislative programme has fallen upon Brexit and the Conservative Party’s new relationship with the Democratic Unionist Party.
But quietly buried towards the end of the official briefing on the Queen’s Speech, filed under “other measures”, was a line flagging the “Summer Finance Bill”, which will “include a range of tax measures, including those to tackle avoidance”.
You can see why this rather vague policy commitment hasn’t hit the front pages, but its substance could come with a bite. If you invest in shares or take profits from your business to supplement your salary, or you’re drawing on your pension, some significant changes could be coming your way under this bill.
You see, before the Prime Minister decided to call the election, the Conservative government had planned to make cuts to both the tax-free dividend allowance and something called the Money Purchase Annual Allowance (more of which, later), both designed to restrict tax relief on investments you make.
These plans were temporarily shelved as the election campaign unfolded, but the emergence of this bill suggests that – unlike the manifesto proposals to change the state pension triple lock and radically overhaul the way we pay for care that are now dead in the water– they are about to spring back to life with the new government.
The changes to the dividend allowance were due to be introduced in April next year. Currently, you can earn £5,000 in dividends each year before you pay any tax – and then pay rates of 7.5 per cent, 32.5 per cent or 38.1 per cent depending on whether you’re a basic-rate, higher-rate or additional-rate taxpayer, respectively.
This is quite a generous allowance. The dividend yield on the FTSE All Share index, for example, is currently 3.61 per cent. So, in order for you to breach that £5,000 allowance, you’d need around £139,000 invested.
The plan is to reduce this dividend allowance to £2,000 – meaning that a portfolio of around £54,000 could potentially see you hit with a bigger tax bill.
It could be argued that if you’ve got £100,000-plus in an investment portfolio, you can afford to pay more tax. But if you’re a retired investor, or plan to take money out of your pension and combine your retirement savings with your investment portfolio to generate income, the other change that the Summer Finance Bill could bring makes it a double-whammy.
If you’ve taken money out of your pension, you can still make contributions to a pension and earn tax relief. But you get a lower annual allowance if you want to make further contributions, called the Money Purchase Annual Allowance.
It was due to drop from £10,000 to just £4,000, meaning you’d only receive tax relief on contributions of up to 100 per cent of your earnings or £4,000, whichever is the lower.
The lower allowance is only triggered when you take a lump sum from your pension called an “uncrystallised pension lump sum”, or you start taking an income from your pension through income drawdown. Taking the 25 per cent tax-free lump sum and buying an annuity, or starting a drawdown without taking an income will mean you’ll still have an annual allowance of £40,000.
This could impact people who take a lump sum from their pension at the earliest possible age of 55, but plan to continue working for the next decade or so. The change in annual allowance would see them only able to save £333 a month into their pension, perhaps at a point when they are at their earnings peak.
So, what can you do to combat the loss of these valuable allowances? Now, more than ever, your Isa should be your weapon of choice. Dividends on shares or funds held in an Isa are paid tax-free, so rehousing your investments by selling and repurchasing them in the tax-free account should be a step to consider.
There is the chance, of course, that you could miss out on investment growth while you’re out of the market, and depending on the amount of profit you make when you sell, you could face a capital gains tax charge. But with a £20,000 allowance this year, this should give you plenty of space to build up your nest-egg again free of tax.
And while new savings to your Isa will come from taxed income (unlike your pension contributions), if you’re affected by the cut in the money purchase annual allowance, you can feel reassured that diverting what would have been pension savings into an Isa will enable you to eventually draw them tax-free.
Of course, these changes were never going to be the first order of business for a new government and it would be no surprise if they weren’t on your radar. But a bit of forward planning could put you one step ahead of the policy changes about to come.
Gareth Shaw is head of Which? Money Online