12 November 2010

Effective Charity Giving - II - Other Taxes and Higher Rate Taxpayers

In the previous article I looked at Gift Aid and Payroll Giving. But there are other ways of giving to charity which enable it to be as effective as possible, both for you and for the charity. “Effective” generally means saving tax and that’s what we will look at here.

I mentioned previously that higher rate taxpayers could reclaim the difference between higher rate tax and basic rate tax on donations made via Gift Aid. In effect, your basic rate allowance is increased by the gross amount of the donation (the net amount of the gift plus basic rate tax reclaimed by the charity). This has a big advantage for those whose taxable income is in the range £100,000 to £112,950 because in this range your personal allowance is progressively withdrawn, so there is an effective tax rate of 60%. Giving to charity and thereby increasing your basic rate allowance means that less of your income (or possibly none) will fall into that band.

There is a similar effect for those with taxable income over £150,000 and subject to the top rate of 50% income tax. Reducing the taxable income to below that level is worthwhile.

Here’s a useful fact: Gifts to charity are free of Capital Gains Tax (CGT). What that means is that any capital gain you have in an asset (such as shares) which would cost you 18% or 28% CGT if you were to sell it can be avoided completely if you donate the asset to a registered charity.

And here’s another useful fact: Gifts to charity are free of Inheritance Tax (IHT). Whether you make the gift in your will, or whether it is before your death the value would not be added back into your estate in order to calculate IHT. (It would be in most circumstances if you made the gift to a non-charity within 7 years of your death.) The gift to charity also leaves the annual IHT gift allowance of £3,000 unaffected and available for other gifts.

And the third in the trio of our most common taxes is of course Income Tax. The good news here is that (quite apart from Gift Aid and Payroll Giving covered in a previous article) certain gifts to charity can get you Income Tax relief. They include shares, land, or buildings. In effect, you can deduct the value of the gift from your taxable income.

Companies which make gifts to charity can also save tax. The gift is made gross (before deduction of Corporation Tax), and the value may be deducted from profits when calculating the Corporation Tax liability.

8 November 2010

Contracting Out - Bringing some Clarity

"Contracting out" has been - to many people - a confusing aspect of pensions for a good number of years now. What does it mean, and does it matter?!

What you are contracting out of is the State Second Pension, or S2P, and its predecessor the State Earnings Related Pension Scheme, or SERPS. Those are pension schemes set up by the Government aiming to supplement your basic State Pension in retirement, based on your earnings.

However, many people are not part of that scheme because they have another pension plan which will provide at least equivalent benefits. In return for not receiving that additional pension from the State, your National Insurance contributions (and those your employer pays) are reduced.

And just to add to the complication you are either contracted in or contracted out at any one time, but many people will find themselves switching back and forth as they change jobs or pension plans. So for some of your working years you will find that you have an entitlement to the State Second Pension but for others you won’t.

Most "final salary" or other defined benefit schemes are contracted out. So you won't receive anything from the Government beyond the basic State Pension for the years you were in that scheme.

Where your employer provides a "money purchase" or defined contribution scheme, it’s possible that the whole pension scheme has contracted out or that you may have decided to contract out on an individual basis, while a "group personal pension" or "stakeholder" plan would require you to have made the decision to contract out individually.

If you are not sure whether you are currently contracted in our out you can ask your employer or check your annual statement. Any reference to "rebates" or "protected rights" would indicate that you are contracted out. You can also check by ringing HMRC’s Contracted Out Pension Helpline on 0845 915 0150 - see HMRC Helpline information

Even if you have been contracted out, whether you are now better to be in our out is not a straightforward decision. From 2012 only final salary pension schemes will be able to contract out, so are you better off contracting back in before that? You can make the decision to do so before each tax year, although the decision will not affect previous years.

There are several factors to bear in mind in making the decision:

• If you remain contracted out, your employer or pension plan takes the responsibility of providing the additional pension, either from the employer's scheme or from the investment returns in a money purchase plan - and you may have a view on the risk involved with that

• Contracting back in will increase your National Insurance contributions a little

• The Pensions Advisory Service Contracting Out Planner suggest that you are likely to be better to be contracted in if you are aged 40-45 or older

• You will have more flexibility if you are contracted out - in a money purchase plan you can take up to 25% of your pension plan as a tax-free lump sum after age 55, and contracting out means a higher value in your pension plan, and therefore a higher lump sum

• As well as a lump sum you can take other pension benefits from age 55 out of your own pension plan (boosted by contracting out) whereas contracted in benefits (the State Second Pension) can only be taken from state pension age (increasing to 66 by April 2020)

• Legislation may change that reduces the value of contracted in benefits, whereas contracted out benefits are yours

• Conversely you may end up being better off with the state benefits, particularly if you are responsible for choosing the investment funds and those funds under-perform or have high charges

Here are some further information links:

The Department for Work and Pensions has a leaflet called Contracted Out Pensions available on the Directgov website.

The government-funded information website Moneymadeclear also has a leaflet on contracting out which you can download.

And the government’s Directgov website also has a Guide to Contracting out

3 November 2010

Effective Charity Giving - I - Gift Aid

Many of us like to give to charities, so here are few ways to make sure that your giving is as effective as it can be. This article mainly covers Gift Aid, while a later one will cover other ways of giving, and giving by higher rate taxpayers. Just to be clear... when we talk about charities they have to be registered as such to gain tax benefits.

First of all it is worth identifying for yourself what charitable concerns you have. It is far more effective for a charity if you give a regular amount - and potentially support them in other ways as well - rather than drop a few coins into a collecting tin occasionally. Much as we would like to, none of us has the resources to support every charity there is.

One of the best ways to give to charity is also the simplest - Gift Aid. Your gift is treated as a net amount on which you have already paid basic rate tax. The charity is then able to reclaim that basic rate tax adding to the value of your donation. All you have to do is sign their form to say that you want to give in that way - and the form only has to be done once.

If you are a higher rate taxpayer (40%) or “additional rate” (50%) then you need to declare your gifts on your self-assessment tax return (or the P810 Tax Review form from HMRC if you don’t do a tax return), and the tax you have paid on that donation above the basic rate can be reclaimed by you.

Here’s an example: you give £10, the charity reclaims basic rate tax on that - an additional £2.50. And as a higher rate taxpayer you could reclaim an additional £2.50.

One thing to look out for with Gift Aid - you do need to make sure that you have paid enough tax in the year to cover the donation. That can be either Income Tax and/or Capital Gains Tax. Otherwise HMRC may ask you to make up any shortfall (the tax “rebates” they have paid out to your charities). If you haven’t paid enough in the current year then you can ask HMRC to carry back a donation as if it were paid in the previous tax year.

There is more detail on the HMRC website at: http://www.hmrc.gov.uk/individuals/giving/gift-aid.htm

If your employer operates a payroll giving scheme, you can achieve a similar result as Gift Aid. In this case, the donation is made gross (before any tax is deducted).

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