Tax-efficient investments – Making the most of what is on offer
Building wealth over your lifetime can take a lot of work and you will want to ensure the money you have earned and are investing isn’t heavily taxed.
There are a number of tax-efficient investments available to UK taxpayers that can help you to make more of your money.
To help you decide on the best approach we have summarised some of the more popular options below:
Pensions are probably the greatest, most tax-efficient tool in most savers arsenal. You’ll only pay tax if you go above the annual pension allowance, which is currently £40,000. This reduces to only £10,000 for the highest earners on a tapered scale.
For example, for every £2 of income over £150,000, you lose £1 of your pensions’ annual allowance. So, if your income is £170,000, you lose £10,000 of the allowance – meaning it’s capped at £30,000. If you earn £210,000 or more, then the allowance is capped at £10,000.
Your annual allowance applies to all of your private pensions if you have more than one. This includes:
- The total amount paid into a defined contribution scheme in a tax year by you or anyone else (for example, your employer)
- Any increase in a defined benefit scheme in a tax year
- If you use all of your annual allowance for the current tax year
By transferring more of your income into a pension, tax-free, you can reduce the overall amount as a taxpayer that you pay, so it is worth investing in your future in this way.
EIS and SEIS
The Seed Enterprise Investment Schemes (SEIS) and Enterprise Investment Schemes (EIS) schemes are tax-efficient investments designed to help small businesses to raise finance, by offering a range of attractive tax reliefs as an incentive for investors to purchase new company shares.
Any entrepreneur seeking investment through an EIS or SEIS hands over equity in exchange for capital funding.
SEIS Income Tax relief can be claimed at 50 per cent of the sum invested during the year that the investment was made, up to a maximum of £100,000.
Meanwhile, EIS Income Tax relief can be claimed at 30 per cent of the sum invested during the year that the investment was made, up to a maximum of £1 million, or £2 million if at least £1 million of that is invested in knowledge-intensive companies.
Any gain from the disposal of EIS or SEIS shares, providing they have been held for the required period and the investor has received Income Tax relief, will receive any gain free of Capital Gains Tax.
Any losses, in excess of Income Tax relief, can be offset against income in the year that the shares are disposed of rather than against capital gains.
Investors can also benefit from carry back relief and a reduction to their Inheritance Tax bill if they meet certain conditions.
Cash, stocks and shares ISAs
Most savers will be aware of the tax-efficient savings that ISAs offer. The maximum amount you can put into your ISA in the current tax year is £20,000, which can be put in its entirety into one type of ISA or spread across the various types of ISA available.
Most people will have experience off using a cash ISA, but with interest rates remaining at a historic low, they may not suit everyone.
Stocks and shares ISAs are more complex and offer greater risk but they also have the potential to deliver a greater return.
They are commonly seen as an entry point for many investors with an interest in investing in the stock market.
The Lifetime ISA offers savers a bonus when saving to buy their first home or if they are looking to build up money for their retirement.
Savers between the age of 18 and 40 can put up to £4,000 a year, as part of the annual ISA allowance, into a Lifetime ISA and the Government will give an additional 25 per cent each year, up to a maximum of £1,000.
Savers can keep topping up the fund until the age of 50, after which point the account stays open until they need to access it after the age of 55.
If you withdraw money for any other reason beyond buying a home or funding your retirement you will face a withdrawal charge.
National Savings and Investments premium bonds
Putting money into premium bonds allows people to invest up to £50,000 into the ‘prize draw’ tax-free in the hopes of receiving a prize, which can vary from £25 up to £1 million. Used together, these tax-efficient pensions, savings and investments can help to drastically reduce your annual tax bill, while also helping you save for the future.