26th May 2016Building up a nest egg

The maximum state pension is currently £115.95 per week – an income that will hardly keep most of us in comfort once we give up work.

So if you are thinking of hitting the golf course, taking up a hobby or perhaps even going on a long, well-deserved holiday, then you will probably need to build up a savings pot throughout your life.

Pensions are one of the most tax efficient ways of saving because personal contributions receive
tax relief…

Firstly, you should consider how much you are likely to need to live on after retirement, how long you have to save that amount and what types of investment vehicles you should use to achieve your goal.

Pensions – reform or not to reform

Pensions are one of the most tax efficient ways of saving because personal contributions receive tax relief, provided that the gross total does not exceed the lower of your annual earnings or the annual allowance.

You receive 20 per cent tax relief at source on pension contributions, with higher and additional rate taxpayers being able to claim a further 20 per cent and 25 per cent respectively via their tax return.

But with people living longer and the shift away from final salary (also known as defined benefit pensions) towards defined contribution pensions, the Government has been looking at ways of reforming the system.

And the issue has certainly been hitting the headlines recently with fears, particularly from high earners, of imminent radical change from George Osborne.

However, the Chancellor dropped plans to end or alter tax relief on pension contributions. He also, for now, parked the idea of introducing a pension ISA and abolishing the popular facility that allows those retiring to take 25 per cent of their pension pot as a tax free lump sum.

Some argue the Chancellor abandoned the plan as a political risk too far for a Government grappling with the highly divisive Brexit question.

Others stress the need for a period of stability in pension policy as companies come to terms with the new requirement to automatically enroll their staff in a workplace pension. Last year also saw the introduction of pensions freedom – major changes to the way savers can take the income for their pension.

In April, the annual allowance, which is currently £40,000, was reduced for top-rate taxpayers by £1 for every £2 they earn above £150,000. But importantly, the lifetime allowance – currently £1.25m – was cut to £1m for everyone. This will be indexed annually in line with CPI from 6 April 2018.

Changes to dividend tax

Another financial issue to be aware of from this April is the change to dividend tax, which affects limited company freelancers, contractors, small businesses and investors in company shares.

The rather complicated dividend tax credit will be replaced by a new, simpler tax-free allowance. In the tax year 2015/16, you could have earned up to £31,785 (gross dividends) on top of the £10,600 personal allowance – a total of £42,385 – and pay no income tax at all.

There are several ways to mitigate the impact of the new dividend tax, but choosing the right one will depend on your individual circumstances.

But under the new rules, there will be a dividend tax allowance of £5,000 a year. Above this allowance, then the following rates will apply: 7.5 per cent on dividend income within the basic rate band (up to £43,000 for tax year 2016-17), 32.5 per cent for higher rate and 38.1 per cent for the additional tax rate band – see the table below for a comparison with the tax credit system.

Taxable dividend income 2016/17 New tax rate Old tax rate in 2015/16
Up to £32,000 (basic rate limit) 7.5 per cent 0 per cent
Between £32,000 and £150,000 32.5 per cent 25.0 per cent
Above £150,000 38.1 per cent 30.56 per cent

There are several ways to mitigate the impact of the new dividend tax, but choosing the right one will depend on your individual circumstances.

Major shake-up in savings

Since April, we have seen the biggest shake-up in savings for a generation with 95 per cent of UK adults able to earn up to £1,000 interest a year on their savings without paying tax on it.

The old regime meant basic-rate taxpayers were losing £20 in every £100 interest earned, with higher rate tax payers forking out £40. The new personal savings allowance means basic rate taxpayers get the full allowance, higher rate taxpayers earn up to £500 tax free but additional rate taxpayers have no allowance.

Tax rate Income band (adjusted net income) Personal savings allowance
Basic 20 per cent Up to £43,000 (£45,000 in 2017/18) Up to £1,000 in savings income is tax-free
Higher 40 per cent £43,001 (£45,001 in 2017/18) – £150,000 Up to £500 in savings income is tax-free
Additional 45 per cent Over £150,000 No personal savings allowance

March’s Budget

There was good news in the Budget in March with Osborne increasing the annual ISA contribution from £15,240 to £20,000 from April 2017 together with the introduction of the Lifetime ISA for those between the ages of 18 and 40. And from this April there was a significant drop in the rate of capital gains tax from 28 per cent to 20 per cent for higher rate taxpayers (and from 18 per cent to 10 per cent for basic taxpayers).

If in doubt it is always worth seeking advice from a professional on any of the tax implications for investments. The costs of getting it wrong risk an unnecessary loss of the returns you and your investments work so hard to make.

Richard Brand, Financial Adviser, Eos Wealth Management
T 020 7874 1194
E rbrand@eoswealth.com

Find out more about pensions and wealth management here

Eos Wealth Management Limited is authorised and regulated by the Financial Conduct Authority (FCA). Any tax reliefs or legislation mentioned are those currently available or in force and are subject to change. The FCA does not regulate tax advice. Prepared using 2016/17 tax rates.

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