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Out with the old and a boost for the new for children’s savings

2020 sees an old plan mature and its replacement given a boost.

Be prepared to feel just a little old: the first Child Trust Funds (CTFs) will mature on 1 September this year, when their owners reach the age of 18.

CTFs were first launched in 2005, when nearly every child born on or after 1 September 2002 became entitled to a government payment of up to £250 (£500 for those from lower income families). At the age of seven a second state payment of £250/£500 was made until August 2010. Additional subscriptions from parents, family and friends were allowed, up to £1,200 a year initially. All government payments stopped on 3 January 2011, after which no new CTFs were created, but existing CTFs have continued to run their course towards their age 18 maturity date.

Earlier this year, regulations were introduced which will mean that when a CTF matures:

  • its owner can draw its value; or
  • the CTF’s value (or part of it) can be invested in an ISA; or
  • if the CTF provider receives no response from the CTF owner, the proceeds will be transferred to a ‘protected account’ where it will continue to enjoy freedom from UK income tax and capital gains tax (CGT).

HMRC set up many CTFs under a default procedure because the initial £250/£500 government vouchers were not redeemed. These and other ‘lost’ CTFs can now be traced using a form on the HMRC website.

In November 2011, the Junior ISA (JISA) was launched as a CTF replacement, to which no government payments are made. JISAs had a slow start, but their popularity has grown over the years. They were given a boost in the March Budget, when the annual subscription limit – which also applies to CTFs – was more than doubled to £9,000 for 2020/21. All other ISA limits were unchanged.

If you are concerned about university costs for your children or grandchildren, JISAs (and their CTFs predecessors if already subscribed to and not yet at maturity) are worth considering as a tax-efficient way to build up the necessary funds, as some 18 year olds will discover in a few months’ time.

The value of tax reliefs depends on your individual circumstances.

Tax laws can change.

The Financial Conduct Authority does not regulate tax advice.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

The inheritance tax dog that didn’t bark…

One of the few surprises in March’s Budget was that the Chancellor never mentioned inheritance tax (IHT) or expected simplification measures.

Before 11 March there had been much speculation that the Budget would introduce a range of changes to IHT. This was more than just the usual press kite-flying, as the Office of Tax Simplification (OTS) had published two reports on the reform of the tax: the first emerged in 2018, with the second issued last July, in time for the Autumn Budget that never happened.

The OTS made a number of proposals for simplifying IHT including:

  • replacing the many lifetime gift exemptions, such as the £3,000 annual exemption, with a single personal gift allowance;
  • reforming or replacing the valuable, but little used, exemption for regular gifts made out of income;
  • abolishing the taper relief on lifetime gifts tax while simultaneously shortening the seven year look-back period for lifetime gifts to five years; and
  • removing the capital gains tax (CGT) exemption on death when 100% IHT business relief applies.

The extent of work done by the OTS and the many issues it flagged up mean that the reform of IHT is unlikely to disappear from the Treasury’s agenda. Proposals may therefore emerge in the next Budget, due this Autumn. It is conceivable that, by then, the Chancellor will be looking at IHT as one way of raising extra revenue to help pay down the debts building up in the wake of the Covid-19 pandemic.

In the meantime, for some families, their potential IHT bill falls by up to £20,000 from 6 April as the residence nil rate band increased by £25,000 to £175,000 (subject to taper for estates above £2 million). Taken together with the nil rate band, still frozen at £325,000, that means a couple could now have a combined total nil rate band of £1 million.

The absence of any measures in the Budget has kept open some estate planning opportunities which could have disappeared in March. This stay of execution could prove to be a good time to review your IHT planning.

The value of tax reliefs depends on your individual circumstances.

Tax laws can change.

The Financial Conduct Authority does not regulate inheritance tax advice.

A change to the annual allowance taper

One of the more controversial pension tax rules was slightly reformed in the Budget.

The annual allowance effectively sets your tax efficient limit for the total amount of pension contributions that you and your employer can make in a tax year. If the limit is exceeded, then you essentially receive no tax relief on the excess. That can result in a large employer contribution landing the employee with a tax bill.

The annual allowance was originally introduced at the level of £215,000 in 2006, then rose to £255,000 in 2010/11, before being cut to £50,000 in 2011/12. The reductions were meant to limit the cost of tax relief, but in 2014/15 a further reduction was made to £40,000 and tapering was introduced for high earners from 2016/17. The taper process meant that for the highest earners, the annual allowance was reduced to a minimum of £10,000.

As time has passed, the net cast by tapering rules has captured a growing number of people. Among those have been NHS consultants and GPs, whose NHS pension scheme has generous benefits and thus high (but notional) contributions. As a consequence, some senior NHS staff have turned down additional work, refused promotion or even opted for early retirement.

The Chancellor addressed the issue in his Budget by increasing both the thresholds relevant to taper by £90,000. In 2020/21, nobody with total income of up to £200,000 (after deducting personally made pension contributions) will be subject to the tapering rules. However, there are some losers from the Budget changes, as the minimum annual allowance has been cut to just £4,000 for the highest earners.

There had been rumours of more radical changes to pension taxation, such as limiting tax relief on contributions to basic rate only. These might still appear in the Budget due in Autumn. In the interim, if you have been affected previously by taper relief, you may now be able to increase your pension contributions.

The value of your investment can go down as well as up and you may not get back the full amount you invested.

Past performance is not a reliable indicator of future performance.

Investing in shares should be regarded as a long-term investment and should fit in with your overall attitude to risk and financial circumstances.

The last cut is the deepest…

The Bank of England’s two unscheduled base rate changes in March took interest rates to a new all-time low.

 

The Bank of England’s 0.5% cut in its base rate to 0.25% on Budget Day (11 March) was far from being a complete surprise. The previous week had seen its US counterpart, the Federal Reserve, make its own 0.5% cut in response to worries about the impact of Covid-19 on the global economy. The Bank of England’s cut was accompanied by other technical measures to facilitate lending to small and medium enterprises as the Chancellor announced a raft of provisions to deal with the pandemic.

Four days later, on a Sunday evening, the US central bank announced another 1% cut in interest rates, taking them down to 0.00%–0.25%. On 19 March the Bank of England returned with its own interest rate scissors, snipping a further 0.15% off the base rate, taking it down to 0.1%.

As the graph shows, the UK base rate is now below the 0.25% level set in the aftermath of the Brexit referendum result in summer 2016, where it remained for over a year. What happens on this occasion will depend on how long and how deep the economic impact of Covid-19 will be. The former governor of the Bank of England, Mark Carney, had long expressed a view that negative interest rates would not suit the UK and his successor, Andrew Bailey, is unlikely to disagree.

As demonstrated on 11 and 19 March, the Bank of England has other weapons in its armoury alongside interest rates. For example, it has restarted quantitative easing (QE) – often erroneously described as printing money – and relaunched its cheap loan programmes to commercial banks, conditional upon them lending on to businesses rather than using the funds for consumer finance or residential mortgages.

For some while the mantra on interest rates has been ‘lower for longer’; now it almost seems ‘lowest forever’. That has potential ramifications for many aspects of your financial planning, including retirement income and long term investment.

The value of your investment and any income from it can go down as well as up and you may not get back the full amount you invested.

Past performance is not a reliable indicator of future performance.

New state pension rates keep UK last in the league tables

The government has published the revised level of state pensions and other benefits for 2020/21. But Britain remains last in the state pension league table.

In April 2020, the new state pension will increase by 3.9% to £175.20 a week – £9,110 a year. The old state pension, which is payable to anyone who reached state pension age before 6 April 2016, also increases by 3.9% to £134.25 a week. Other state pension benefits, such as additional state pension, will rise by 1.7%, in line with Consumer Price Index (CPI) inflation to last September. The higher increase for the two main pension benefits is the result of the ‘triple lock’, which means that both increase in 2020/21 in line with earnings rather than prices or a 2.5% floor.

At £9,110 a year, the new state pension is nearly £3,400 below the personal allowance and even below the newly increased level at which individuals start to pay national insurance contributions. The latest global annual survey by the Organisation for Economic Development (OECD), published in November 2019, showed that in terms of mandatory pensions for those on average earnings, the UK was at the bottom of the pile. The OECD average for state pensions is 49.0% for men and 48.2% for women of average earnings. The figure for the UK state pension represented only 21.7% of average earnings. At the top of the OECD league, Austria, Italy and Luxembourg all offer pensions that exceed 75% of average earnings.

The UK has regularly appeared at or very near the bottom of the OECD pension league table, often swapping the wooden spoon ranking with Mexico. It seems unlikely that this situation is going to change any time soon. The last major change to UK state pensions took effect four years ago, when the single tier new state pension replaced the combination of the basic state pensions and, for employees, state second pension scheme (formerly the State Earnings Related Pension Scheme). The underlying aims of the reform were to raise retirement income for low earners while simultaneously reducing the long-term cost to the Treasury.

The October 2012 introduction of pension automatic enrolment added a second tier of private pension provision, but minimum contributions are at modest levels and the self-employed are not included. If you want to enjoy your retirement, the message from the latest state pension increases is to make sure your plans are not relying on state provision.

The value of your investment can go down as well as up and you may not get back the full amount you invested.

Past performance is not a reliable indicator of future performance.

National Savings takes the axe to interest rates

National Savings & Investments (NS&I) has announced interest rate cuts to most of its products.

If NS&I did not exist, it is hard to imagine that it would be invented now. Once upon a time it was a useful way for the government to raise cheap money from the general public, whereas today it is exactly the opposite.

If HM Treasury needs to borrow – as it always does – it can raise billions by selling government bonds (gilts) to institutional investors at an interest rate of under 1%. For example, at the time of writing, the yield on ten-year gilts was just 0.47% – less than one third of January’s 1.8% inflation rate.

With such low-cost money available in wholesale amounts, it was not surprising that in February NS&I announced a raft of interest rate cuts, all to take effect from 1 May 2020:

Product Current rate New rate from 1/5/2020
Direct Saver 1.00% gross/AER 0.70% gross/AER
Income Bonds 1.15% gross/1.16% AER 0.70% gross/AER
Investment A/C 0.80% gross/AER 0.60% gross/AER
Premium Bonds 1.40%

24,500:1 monthly odds of winning

1.30%

26,000:1 monthly odds of winning

The premium bond changes mean that from May, 98.95% of all winning draws will be for the minimum prize of £25. However, as the table shows, the underlying prize interest rate for premium bonds is markedly better than what NS&I is offering on its other variable rate products. Indeed, if your interest income exceeds your available personal savings allowance (£1,000 for basic rate taxpayers, £500 for higher rate taxpayers) and you have used your £20,000 ISA allowance, the likely meagre returns on premiums bonds are relatively attractive.

NS&I also lowered the rates on their fixed rate products – Guaranteed Growth Bonds, Guaranteed Income Bonds and Fixed Interest Savings Certificates. These are not on general sale and are only available for reinvestment of maturing plans.

NS&I’s move can be expected to encourage another round of cuts among deposit-taking institutions, even though the Bank of England rate has remained unchanged since July 2018. If you need income from your savings, then you must either resign yourself to these ultra-low rates or accept some risk to capital. For example, the average yield on UK shares is now about 4.3%.

The value of tax reliefs depends on your individual circumstances.

Tax laws can change. The Financial Conduct Authority does not regulate tax advice.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

NICs – a tax by any other name?

The new National Insurance Contributions (NICs) scales for 2020/21 were announced ahead of today’s Budget, with one slight surprise hidden in the numbers.

Are NICs a tax?

Over many years, Chancellors have tried to convince the public that they are not. It has always seemed easier to say that NICs are going up by 1% than to announce the same increase in income tax rates, even if the net effect for the working population is virtually the same. NICs are still vaguely associated with the NHS and social security benefits in the public’s mind, partly because qualification for some benefit entitlements depends upon NIC payments. However, from the Treasury’s viewpoint, NICs are just another source of revenue.

This year the Treasury seems to have decided – at least temporarily – that NICs are a tax. At the end of January, it ran a news story with the headline ‘31 million taxpayers to get April tax cut’. It sounded like an official Budget leak, but it wasn’t.

The announcement referred to an increase in the level at which employees and the self-employed start to pay NICs. As trailed in the Conservative party election manifesto, this trigger point will rise from £8,632 in 2019/20 to £9,500 in 2020/21. In practice the limit would have risen to £8,788 anyway, as it is automatically inflation-proofed unless the Chancellor decides otherwise.

The net result is a maximum saving of around £104 a year if you are employed and pay class 1 NICs and £78 if you are self-employed paying class 4 NICs. The Treasury’s new release says that “…the government has set out an ambition to raise the National Insurance thresholds to £12,500”, but that aspiration – worth up to another £360 a year – has no timescale attached to it.

If you are an employer, you may be surprised to learn that the threshold at which employer class 1 NICs for an employee start to be charged in 2020/21 will not rise to £9,500 but benefits only from the inflationary uplift to £8,788.

The maximum combined employer/employee rate of NICs is 25.8% (13.8% + 12%), so NIC planning can be as important as other tax planning. For the options available to you – as an employer, employee or self-employed – you need expert advice.

Tax laws can change. The Financial Conduct Authority does not regulate tax advice

National Living Wage set to outpace new state pension

The National Living Wage (NLW) rises by over 6% in April.

The 6.2% increase to £8.72 an hour equates to £15,870 a year based on a 35-hour week. The substantial rise is not down to inflation – which ended 2019 at only 1.3% – but due to a policy of George Osborne’s. When he made the surprise announcement of the NLW in his 2015 Summer Budget, Osborne set a goal for it to match 60% of median earnings by 2020. The new Chancellor, has set a revised target of the NLW reaching two thirds of median earnings by 2024.

Pushing up minimum earnings is a double-edged sword for the Treasury. It ought to mean a reduced government outlay on in-work benefits and increased tax and NICs income, but it also adds to the government’s costs as an employer, placing pressure on all wages, not just those at the minimum level. What it has not done so far is impact on the cost of state pensions.

State pension equivalence?

As a result of the Conservative party election win, we know that the ‘Triple Lock’ will continue to apply to the new state pension, with annual increases which are the greatest of:

  • Consumer Price Index (CPI) price inflation;
  • average earnings growth; or
  • 5%.

The NLW will have to rise faster than earnings to move from 60% to 662/3% of median earnings over the next four years. It’s therefore quite likely that, as in the past four years, the NLW’s growth will outpace earnings.

A corollary is that the new state pension looks set to continue shrinking as a proportion of the weekly equivalent of the NLW. From April, the new state pension will be only about 57% of the NLW (and thus little more than one third of median earnings). When the NLW and new state pension first came into being in 2016, the pension was nearly 62% of the NLW.

Those numbers are a reminder that the new state pension is far from generous, even for those with minimum earnings. If you want a comfortable retirement, then the new state pension needs topping up.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

 

Look back in curiosity: what can we learn from the 2010s?

What do you remember about the 2010s?

A decade is a long time and a lot happens, but important details can be lost in the big headline moments. The one that has just ended makes the point. The 2010s started with Gordon Brown as prime minister and, four elections and two referendums later, closed with Boris Johnson in 10 Downing Street and the UK out of the EU. Over the entire period, the Bank of England’s base rate deviated no more than 0.25% either side of the 0.50% at which it began the decade.

Inflation, as measured by the CPI, rose from 0.7% in January 2010 to peak at 5.1% in September 2011, but from 2012 onwards never breached 4%. It ended the decade at 1.3%. Across the decade, CPI inflation averaged 2.1%, just 0.1% above the Bank of England’s central target.

House prices, as measured by the Nationwide House Price Index (NHPI), beat inflation across the decade, but not significantly. As the graph shows, for most of the first five years house price rises underperformed, then took the lead as inflation subdued. Over the entire decade, the NHPI rose by 32.8%, equivalent to an annual increase of 2.9%. It may come as a surprise that the NHPI fell short of inflation, as measured by the Retail Price Index (RPI), which rose by 33.9% over the 2010s (3.0% annually).

The UK stock market, as measured by the FTSE All-Share Index, produced capital growth of over 50% in the 2010s, despite all the political traumas. That is equivalent to 4.3% annually, more than double the inflation rate. The progress was not smooth – the grey line on the graph does gyrate about somewhat – but neither was it an unnerving roller coaster.

Unfortunately, we can’t project a similar graph for the 2020s. The new decade has started with falling inflation, interest rates set to stay at ultra-low levels, and both housing and share markets that appear to be experiencing a post-election bounce. In the absence of a decade-deep crystal ball, the wisest investment advice for the 2020s will be, as for every other decade, not to put all your eggs in one basket.

The value of tax reliefs depends on your individual circumstances. Tax laws can change. The Financial Conduct Authority does not regulate tax advice. The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investing in shares should be regarded as a long-term investment and should fit in with your overall attitude to risk and financial circumstances.

Last call for 2016/17 on your annual allowance…

The clock is ticking on using up your pension annual allowance

The allowance effectively sets the maximum pension contributions from all sources (including your employer) on which you may be able to claim income tax relief. In recent times it has been the subject of much controversy because of the way the allowance is tapered from the ‘standard’ £40,000 to as little as £10,000 for high earners.

One reason why the taper rules have come to the fore is another aspect of the annual allowance which has received far less press coverage: the carry forward rules. These allow you to mop up unused annual allowance from up to three tax years ago – i.e. from 2016/17 onwards during the 2019/20 tax year. In theory this could mean that, before 6 April 2020, tax-relievable pension contributions of up to £160,000 could be made (£40,000 a year for 2016/17 – 2019/20 inclusive).

As you might expect, there is some complex legislation setting out how carry forward operates. For example:

  • You must have been a member of a registered pension scheme in the tax year from which any unused annual allowance is carried forward. However, you (or your employer) do not have to have paid any contributions or accrued any benefit during those years, nor do any carried forward contributions have to be made to that scheme.
  • You must have covered an effective ‘entry fee’ of contributions equalling your annual allowance for the current year, i.e. £40,000, if you are not caught by the taper regime.
  • The carry back goes to the oldest tax year first and then works forward.
  • All tax relief is given in the current tax year, not the year to which the unused allowance relates.
  • Carry forward is not available if, at any time, you have taken advantage of the 2015 pension flexibilities to draw from any pension arrangement.

Calculating how much can be carried forward is sometimes a difficult exercise, requiring detailed contribution records, so if you want to beat the deadline for using up your remaining allowance from 2016/17, start seeking advice now.

The value of tax reliefs depends on your individual circumstances. Tax laws can change. The Financial Conduct Authority does not regulate tax advice. The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.