The recent Panorama documentary on the Paradise Papers has once again raised the thorny issue of tax avoidance and tax evasion.
While the super-rich and corporations appear to be pushing the boundaries in terms of tax planning, it should be emphasised that tax avoidance is not illegal, but tax evasion is.
Denis Healey (former chancellor) famously remarked “the difference between tax avoidance and tax evasion is the thickness of a prison wall”. Most people want to minimise their tax liabilities, but also want to make sure they are obeying the rules.
So, what legitimate tax planning opportunities exist?
Registered pension schemes
It is possible to invest up to £40,000 gross into a registered pension scheme in the current tax year.
It is also possible to carry forward unused relief from three previous tax years, provided you have sufficient earnings to support the payment.
A payment of £40,000 would effectively cost £24,000 for a higher rate income tax payer who enjoys 40% tax relief.
The same payment of £40,000 would cost £32,000 for a 20% income tax payer.
Higher earners may have a lower annual allowance which is tapered according to earnings and may reduce their allowance to £10,000 gross.
Individual savings accounts (Isas)
The Isa limit has been increased to £20,000 per annum and there are a variety of investment options available.
These range from cash or investment funds to Alternative Investment Market shares, offering strategies to accommodate any saver. Isas allow tax-efficient growth, a shelter from capital gains tax (CGT) and the ability to make tax-free withdrawals if required. For those with higher risk appetites, investments into venture capital trusts or enterprise investments schemes could be considered.
Venture capital trusts (VCTs)
Up to £200,000 can be invested in VCTs, with income tax relief at 30% available. Dividends received are tax-free and there will be no CGT on sale provided they are held for a qualifying period of at least five years.
Enterprise investment schemes (EIS)
Income tax relief of 30% on investments up to £1million is available, provided they are held for a minimum of three years.
There is also the potential for 100% relief from inheritance tax, which is available after holding the investments for two years and provided the shares are still held on death.
VCT and EIS investments should form only a small part of a well-diversified portfolio for those willing and able to accept the higher risk they represent. Tax relief is available only on the actual amount of tax paid. These schemes allow significant sums to be sheltered from income tax legitimately.
Paul Gibson, MD of Banchory-based Granite Financial Planning