Problems you did not know you had

When I was asked to write an article for this newsletter I was initially nervous, I wrote a short column some years ago and remember struggling to come up with things to write about and I thought I might have the same problem. In fact it has been the opposite this time – there are so many things to write about! It feels like there have been more tax changes in the past decade than in the preceding century, although I have no objective data to back that up. My concern is that the average taxpayer is largely unaware that there are some surprising “gotchas” now lurking in the tax system. Many years ago someone told me an accountancy joke, being an accountancy joke it’s not very good, but still:

Definition of an accountant: someone who solves a problem you did not know you had with a solution you do not understand.

Depressingly this seems to be more and more the case.

Here are my highlights of common obscure problems (if that makes sense:

1.      Pension contributions caught by annual allowance

A client has heard that they can make pension contributions using up earlier year allowances. The client is in a job paying £70,000 and their spouse is earning good money so they have a surplus of cash. The client decides to make a contribution of £80,000 using up this year’s allowance of £40,000 and last year’s as well.

Unfortunately the gross contribution of £100,000 exceeds the annual earnings of £70,000 and if the full amount is claimed then the taxpayer could be liable to a penalty and interest on the over claimed relief. If an accountant is acting for the taxpayer this will be avoided but the relief will be less than anticipated, in effect a taxed contribution into the pension scheme for the excess amount will have been made.

The situation is worse still if the taxpayer’s employer has also been contributing and this might trigger an annual allowance charge.

2.      Excess Gift Aid

Gift Aid is a fantastic way of enhancing a gift to charity, allowing the charity to recover the basic rate tax paid and for higher and top rate earners to receive additional relief. Such contributions also help when near to the limits for, say the High Income Child Benefit Charge or the pension contributions higher earners limit.

Unfortunately the Gift Aid system assumes that basic rate tax has been paid by the gift giver. This is not always the case and we find often catches out members of partnerships (and Limited Liability Partnerships (“LLPS”), some sole traders and those on low incomes (such as pensioners living off savings.

For example we acted for an LLP where the principals drew a monthly amount. As far as they were concerned that was their income. However, in this case the LLP was not yet profitable and the amounts being drawn were funded by capital contributed by a third member. The principals had made gift aid contributions and they had to pay the basic rate tax that had been claimed by the charities they had donated to. The amounts were not large but they were annoying.

3.      Giving away the main home

A very common question I am asked is how to mitigate the potential inheritance tax. The most common suggestion is “if I give away my home then it won’t be part of my estate if I live for seven years, right?”. Sadly not if you continue to live in it rent free. The “gift with reservation” rules will catch this unless a commercial rent is paid. Worse (and the real “gotcha” here are the Pre Owned Asset rules which in my experience no layperson is even aware exists, for example:

Suppose a taxpayer gifts cash to their child as a potentially exempt transfer. The child uses the money to acquire a property and the taxpayer moves in immediately. The consideration condition at Sch 15 para 3 (FA2004) will be met and the taxpayer is potentially liable to an annual income tax charge based on the rental value at the date the charge first arose, subject to five-yearly revaluations and assuming the de minimis of £5,000 does not apply. The taxpayer should be declaring this on a self-assessment tax return. If this is outside self-assessment, the taxpayer might have fallen into the failure to notify penalty regime!

4.      Overseas landlords

Some years ago an employee at a client came to me and said “I think I have a tax problem. I’ve been sent a letter by HM Revenue & Customs, but it must be wrong as it’s for a huge amount”. I said I would look into it and I had to give him the bad news that despite being an employee under PAYE and having no other income the assessment (for close to half his annual income) appeared to be correct. So what was going on?

The employee was renting property and the landlord lived in Pakistan, not unusual in certain parts of the UK. The tenant was making payments directly to a bank account based in (as I recall) the Channel Islands, which for tax purposes is outside the United Kingdom despite being a UK high street bank branch so far as the employee was concerned.

Unfortunately this fell foul of the Non-Resident Landlord rules which specifies that anyone paying rentals overseas to a non-resident landlord must either:

  1. Satisfy themselves that the landlord has opted into the self-assessment regime; or
  2. Deduct basic rate tax and account for it to HMRC.

Where there is a rental agent collecting the rents they will usually arrange for the landlord to opt into self-assessment (as they are fully aware they are liable for the tax otherwise!) but where a tenancy has been arranged direct the obligation falls on the tenant!

Conclusion

I do feel that our lawmakers have made the tax system unnecessarily complex in many areas that actually touch on every day transactions and I wish that during parliamentary scrutiny of the Finance Bill each year more restraint was shown. In the meantime, and at the risk of sounding self-serving, make sure that you have access to someone familiar with current tax rules before carrying out anything “unusual”.

Darryl Ashing FCA

Is a director and shareholder in Ashings Limited, Chartered Accountants

Darryl specialises in all aspects of advice to owner-managed businesses

E: Darryl.ashing@ashings.com

 

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