I’ve hit my ISA allocation limit - how else can I reduce my investing tax bill?
The biggest advantage of investing in an ISA is the tax relief. Any returns you make on your investments are tax-free. This means no income, capital gains, or dividend tax on any of the returns in your account. And the savings from that tax bill can be significant - as we noted in our recent ISA guide, an investor who used their full ISA allowance every year between 2010 and 2020 to buy a US tracker fund could have amassed tax free profits of £149,160.
But what if you want to invest a greater sum than the annual ISA allowance (capped at £20,000 in 2022/23)? Any additional investment will need to be put into a different account, where it may not be sheltered from the tax man.
Fear of a tax bill shouldn’t put you off investing more of your savings, especially if you think market conditions are ripe. There are still ways of reducing your annual tax bill, whether that is by using other tax wrappers offered to British investors, or by making full use of your tax-free allowances.
This article will show you how to:
Make the most of your personal allowance to reduce your tax bill for capital gains in a general investment account
Make the most of your spouse’s allowance
Make the most of your workplace pension
Contribute to other tax efficient wrappers
How to use your personal allowance to reduce the tax bill for investments outside an ISA
General Investment Accounts (GIA) are often the first port of call for new investors. They’re simple, flexible and allow you to withdraw the money whenever you want. But while opening a GIA before an ISA is a mistake (for the tax reasons discussed above), that shouldn’t stop you from using a GIA for additional savings or investments in exotic markets not permitted by the ISA wrapper.
And just because your investments are in a GIA rather than an ISA doesn’t mean you can’t be canny about your tax payments.
Just like the annual ISA allowance, everyone in the UK has a personal allowance for tax-free capital gains and dividends (these are laid out in the table below alongside the tax rate for capital gains and dividends above the personal allowance).
Personal Allowance | Basic Rate | Higher Rate | Additional Rate | |
Capital Gains | £12,300 | 10% | 20% | 20% |
Dividends | £2,000 | 8.75% | 33.75% | 39.35% |
The personal allowance is also similar to the ISA allowance in that it resets every year. Meaning if you don’t use it, you lose it. One way to ensure you keep a lid on your capital gains tax bill is to make the most of that personal allowance. To reduce the risk of building up a large unrealised capital gain (which potentially accumulates a big tax liability) you can use your annual allowance to sell part of a holding and then buy it back. In doing so you can reset the cost of your investment at a higher level, thus reducing the gain against which future taxes will be calculated.
It is worth noting that tax rules mean you have to wait 30 days before you can buy the same holding back. Plus, most brokers and platforms charge transaction fees for buying and selling shares. So this strategy is not without its drawbacks.
How to use your workplace pension to reduce your tax bill
In the UK, your pension savings are free of tax. Good thing too, because when the time comes to take your pension out and benefit from your years of hard work, you’ll pay tax on most of the drawdown. Every year, Brits can contribute the equivalent of 100% of their earnings (up to £40,000) to their pension, free from income tax.
Workplace pensions, especially in the private sector can be very generous. Some companies match or even double your contributions and because the money comes straight out of your paycheck, it doesn’t attract any income tax upfront. Utilising your workplace scheme can be a good way to shelter more of your income from the tax man.
If your employer offers a salary sacrifice scheme, you can also use your workplace pension to manage the tax rates of capital gains and dividends earned in accounts outside of tax wrappers. When you pay into your pension using salary sacrifice, your earned income for the year is reduced. This could help move you into a lower tax bracket, where the income, capital gains and dividend tax rates are lower (as shown in the table below).
Basic Rate | Higher Rate | Additional Rate | |
Earned Income | £12,571 to £50,270 | £50,271 to £150,000 | Over £150,000 |
Income Tax Rate | 20% | 40% | 45% |
Capital Gains Tax Rate | 10% | 20% | 20% |
Dividend Tax Rate | 8.75% | 33.75% | 39.35% |
For example, if you currently earn above the £50,271 and pay the higher rate of income tax, you could sacrifice some of your salary to your pension, thus reducing your annual earned income below £50,271 and into the lower tax bracket where capital gains are charged a 10% tax rate (compared to 20% for the higher tax bracket) and dividends are charged an 8.75% tax rate (compared to 33.75%).
If your employer provides a Payroll Giving Scheme, you can also lower your annual earned income (and potentially your tax bracket) by making charitable donations directly out of your salary.
How to make use of your spouse’s allowance
Every adult in the UK has both an annual capital gains allowance and an annual ISA allowance. If you have used up your own allowance, you can transfer your assets to your spouse to make the most of their allowance as well.
Using their capital gains allowance employs a tactic called ‘bed and spouse’. This allows one spouse to sell an asset which the other spouse can buy back immediately. CGT does not apply to assets you give or sell to your spouse, which means you will save CGT and the family will retain the asset.
Using a spouse’s ISA allowance is a little more tricky as the wrapper isn’t meant for more than one person’s use - it’s called an individual saving account for a reason. That said, your spouse can set up an ISA in their own name and then make you a named user of the account, allowing you to make buying or selling decisions. You can also use your spouse’s allowance on your current holdings by selling the assets in your GIA and buying them back immediately in your spouse’s ISA. Just ensure you make the original sale when the capital gain is below your own personal allowance.
How to take advantage of other tax efficient strategies
Open a SIPP
For most employees, the workplace pension scheme should be utilised to its full potential, especially if your employer makes a generous contribution or offers some insurance benefits.
But workplace or other managed pension schemes don’t offer much flexibility and you can’t pick the assets that are right for you, which could cost you in the long-term. For example, if you are just starting out in your career and not expecting to retire for 40 years, you can afford to take higher risks on the investments in your pension. In a workplace scheme, your money is likely to be bundled up with the same investments as your colleagues who are much older than you and require a less adventurous investment portfolio.
Unlike other pension wrappers, Self Invested Personal Pensions (SIPPs) give investors complete control over their retirement funds, but they come with the same tax relief. So they can be very beneficial for savers looking to maximise their retirement pot and minimise their tax bill.
Every time you make a personal contribution to a SIPP, the government will add 20% (or 40% if you are a higher rate tax payer). Investments in the SIPP are also free of capital gains and dividend tax - although remember, you can’t withdraw the money until you are 55. The only restriction on contributions is the annual pension allowance of 100% of your salary (up to £40,000). Even if you aren’t earning you can contribute up to £2,800 net of tax to your Sipp each year.
Open a Junior ISA
The allowance for the Junior ISA tax wrapper falls outside of the standard £20,000 allowance, providing an extra sliver of tax free savings.
Adults can set up a Junior ISA on behalf of children under the age of 18 and save up to £9,000 a year in either cash or stocks and shares. While this extra savings vehicle can be a beneficial tax haven, it’s worth being aware of the stipulations on the accounts. The Junior ISA belongs to the child in whose name you have set it up and will transfer to an adult ISA in their name when they reach the age of 18.
Look for EIS opportunities
Qualifying Enterprise Investment Scheme (EIS) or Seed Enterprise Investment Scheme (SEIS) companies are eligible for a variety of tax reliefs and can be a good way for high earners or experienced investors to reduce their tax burden. For investors who have maxed out their ISA and pensions allowance but still want to invest in companies which could generate higher returns than cash, EIS-qualifying companies are a tax efficient option.
Investors can receive up to 30% income tax relief when they invest in EIS-eligible companies and up to 50% income tax relief on investments in SEIS-eligible companies. What’s more, EIS and SEIS companies are free of capital gains tax on disposal, provided they have been held for at least three years.
It should be noted that EIS and SEIS companies are normally early-stage startups or scaleups and therefore likely to be higher risk than better established companies listed on the stock market.
Ultimately, making the most of tax efficient strategies can be complex and it could pay to appoint a professional to help lower your tax burden. Of course, there is no hiding from the tax man completely, but with a little time you can reduce your annual bill significantly. And the less money you have to spend on tax, the more you’ll have to compound away in your portfolio.
About Megan Boxall
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Hope.
Not a great investment strategy.
At some point though, something has to give as the UK falls further behind as a place to invest. I won't post my full thoughts as we're not supposed to discuss politics here, but the govt needs to accept reality at some point.
The issue with buying stocks within a ltd company is the tax, you will pay corporation tax on gains (now likely to go up) and then you will pay tax on withdrawals from your company, either through salary or the dividends you pay yourself. A double tax hit and not a small one either. At least that was the conclusion I came to when I considered it previously
Spread BET. There’s the clue right there ! You have to cover any position with cash, and if it breaks your stop, up or down, you lose the entire position. There is also a spread which can be quite large and there is a limit to how much you can put on any stop position. Yes, you can make money that way - especially by riding a trend - but essentially you are taking a leveraged position on a stock with all the risks rewards that that entails. Not relevant to the subject Megan is covering here - a totally different instrument.
Yes spread bet is a good tax-free approach, albeit with leverage risk, exaggerated gapping, overnight funding, and it is very unlikely to be a 100% reflection of the underlying stock price, ie your SB buy/sell price will be higher/lower than your stock price. Equally don't underestimate the heightened anxiety of a SB position vs a stock position,
CFD's have similar leverage to SB's but are taxed, their price will, however, reflect the underlying market. The advantage of CFD's are that losses can be offset against capital gains, DYOR on this.
surprised that Stocko has run this article tbh as it doesn't really fit with what the platform provides and is not entirely accurate.
eg the SIPP comments are a little misleading :
The government "gives" 20% contribution to what you put into the SIPP. If you are a higher taxpayer you can "claim" tax back for the remaining to either 40% or 45% depending on your tax threshold via self-assessment. This doesn't happen automatically, also this money additional to the 20% doesn't end up in your SIPP, you get a tax rebate.
Watch your tax code notifications from HMRC, often they make an assumption that what you did in one year you will do again for future years and they make pro-active adjustments to your tax code. If you don't do what you did in previous years you will have underpaid tax, again a nasty tax bill you weren't expecting
Although you can contribute up to £40k per year you need to potentially consider what is being contributed by your employer else you may accidentally exceed your threshold, and then you get another nasty tax bill you were not expecting.
There is also a lifetime allowance which you cannot exceed, ditto nasty tax bill if you do.
DYOR please though
I think most people don't fully appreciate the tax benefits associated with pensions. Every £80 paid into a pension becomes £100 through the addition of basic-rate tax relief (a 25% uplift). Assuming no investment growth, you can take out 25% tax free with the remainder subject to income tax. So from your £100 pot, you could get back £25 + (£75 * (1-20%)) = £85. Your £80 has turned into £85 for a 6.25% return, all else equal.
The return is fantastic if you are a higher-rate taxpayer when contributing, but a basic-rate taxpayer in retirement. Your £80 contribution becomes £100 in the pension, but you save another 20% through your self-assessment tax return. So the £100 pension fund only 'costs' £60 in the end. If you are a basic-rate taxpayer when retired, the £85 net you receive from your pension is then an effective 41.66% return on the cost of your contribution. Even if you remain a higher-rate taxpayer in retirement, you get back £70 net for a 16.66% return just through the tax structure. The return profiles are more beneficial again for Additional Rate Taxpayers. And everything is supercharged from a personal perspective if receiving employer contributions on top!
If your earnings are between £100k-£125k you can get back some or all of your personal allowance through pension contributions. You can also get back the extra 1% tax rates in Scotland, on your contribution amount.
Pensions are exempt from Inheritance Tax, while the other mainstream wrappers fall within your taxable estate (unless in trust, and I'm not counting EIS as mainstream). If you die before 75, your nominated pension beneficiaries can keep the money invested as a nominee pension and withdraw money whenever they want (regardless of their age) completely tax free. So long as the pension provider includes this feature.
The trouble, of course, is you can't access pensions until age 55, with the Normal Minimum Pension Age increasing to age 57 in 2028. However, your existing pension may benefit from a protected age of 55. The government could also change the regulations and tax rates in future. And there are a myriad of complex rules on both accumulation and decumulation, including the Annual Allowance, Tapered Annual Allowance, Carry Forward, Lifetime Allowance, Money Purchase Annual Allowance and Recycling Rules. Emergency Tax is usually applied to one-off withdrawals, which then needs to be reclaimed, making pensions rather cumbersome if you are looking to fund a one-off expense.
The article doesn't mention onshore and offshore investment bonds which are very useful in certain situations. But the tax position on withdrawals is complex - and quite punitive for large withdrawals - if investment gains are made.
I would suggest that anyone who wants to explore the tax benefits of different wrappers seeks Independent Financial Advice. The Unbiased and Vouched For websites can point you in the right direction. This post, of course, is not itself advice!
As one other poster has noted, the absence of any comment on VCTs is surprising, to say the least, particularly as EIS and SEIS (both even more risky, in my view) are both mentioned.
Don't get hung up on the semantics, calling it a bet is what makes it tax free and the risk is identical to buying a stock. Breaking a stop level will close out a position, same as it would in an ISA, isn't that the point? The extra spread and funding is roughly equivalent to commission/stamp duty, and as long as you have enough funds in your account to cover your collective positions, you're not using leverage. Spread betting is highly relevant to the article's subject of tax reduction because it offers exposure to a huge range of markets, long or short without paying a bean in tax.
*Past performance is no indicator of future performance. Performance returns are based on hypothetical scenarios and do not represent an actual investment.
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You've got roughly 28 days left of that capital gains tax allowance. The allowance gets cut massively from 6th April 2023 to £6000 and gets cut again 6th April 2024 to £3000. Ditto the dividend allowance which will be £1000 from 6th Aril 2023 and £500 from 6th April 2024.
And, in the UK, pension savings aren't free of tax once you cross certain thresholds. I'm no expert but my understanding is there's an annual contribution limit and a lifetime allowance that makes no allowance for successful investments.
This article is effectively out of date even though it was only published this morning.
Happy to be corrected if I have this wrong, we're all here to learn :)