Let’s start with some good news…
The following rates will not increase for the lifetime of this parliament:
Basic rate of income tax – 20%
Standard rate of VAT – 20%
Employers’ Class 1 NIC – 13.8%
Employees’ Class 1 NIC – 12%
Now let’s take a look at everything else…
Change in dividend tax and the abolition of 10% tax credit on dividend.
A major reform to dividend taxation has been announced. This will have a significant impact on profit extraction strategies for small and medium-sized businesses and contractors who have their own limited company.
Although there will be a £5,000 dividend exemption, the abolition of 10% tax credit on dividends means that any dividends above £5,000 will be liable to an additional 7.5% income tax – potentially leaving most director shareholders worse off. We are waiting for information on whether the £5,000 exemption applies to all dividend income, or if it will be withdrawn when the dividend is above the exemption threshold.
While full details of the reform are yet to be published, the new tax rate on dividends, and date it comes into effect, is as follows:
- The current effective basic tax rate band* will increase from 0% to 7.50% in April 2016.
- The current effective higher tax rate band* will increase from 25% to 32.50% in April 2016.
- The current effective additional tax rate band* will increase from 30.56% to 38.10% in April 2016.
*Note: The current effective tax rate is on Net Dividend after 10% tax credit, i.e. the actual amount received. From April 2016, there will be no different between Net and Gross Dividend due to the abolition of 10% tax credit.
One-man companies will not be eligible for employment allowance.
At present, NIC employment exemption applies to all businesses. It enables contractors, who run their own personal service company (PSC) and pay themselves a salary, to claim £2000 employers’ NIC allowance. From April 2016, this will no longer be the case. PSC contractors operating outside of IR35 earning a salary above the NIC threshold (2015/16: £8112) will no longer be eligible for the allowance and have to pay employer’s NIC on their salary.
Contractors who are currently running a minimal salary at the NIC threshold, or deemed payment (inside IR35), will not be affected as the former won’t need to pay NIC, and the latter are already ineligible for the allowance.
Increase in personal allowance & higher rate threshold.
Personal allowance and higher rate threshold are increasing to £11,000 and £43,000 next year. This will give anyone who earns above £11,000 an additional £400 income tax free allowance from this year (i.e. extra £80 tax free income if you’re a basic tax rate payer) as well as an additional £215 basic tax rate band. However, contractors need to be wary that dividends falling under their basic tax rate band will attract additional income tax from April 2016 (see previous page).
However, NIC thresholds did not have the same comparable raise.
IR35 is still on course to be reviewed.
The government still has its eye on IR35 and will carry out a new consultation to improve the effectiveness of the legislation. In their own words:
1.180 The government recognises that many individuals choose to work through their own limited company. However, where people would have been employees if they were providing their services directly, anti-avoidance legislation commonly known as IR35 introduced in 2000 requires that they pay broadly the same tax and National Insurance as other employees. As highlighted by reports from the Office of Tax Simplification and the House of Lords, it is clear that IR35 is not effective enough. Non-compliance in this area is estimated to cost over £400 million a year.
1.181 The government has asked HMRC to start a dialogue with business on how to improve the effectiveness of existing IR35 legislation. The government wants to find a solution that protects the Exchequer and improves fairness in the system.
There is no more information at present, apart from knowing IR35 is still under the spotlight and ‘Supervision, Direction or Control’ will likely take more prominence in the decision on one’s employment status.
No immediate tax relief available on expenses for contractors from April 2016 and ‘controlled’ workers will not be eligible to claim travel and subsistence.
Following the Summer Budget, a consultation document was released on travel and subsistence expenses for the changes enacted through The Finance Act 2015. From April 2016, payments made to contractors using payment intermediaries must have PAYE applied and no immediate tax relief will be available on expenses. Contractors who are eligible to claim expenses would then be required to complete a claim at year-end for tax relief. However, if the contractor is subject to the right of supervision, direction or control then the payment intermediary (including both umbrella and PSC), cannot offset or reclaim any relief on travel and subsistence expenses incurred. The claim can only be made where the end client has confirmed that the contractor is not subject to supervision, direction, or control.
PSC contractors will also be subject to new rules and tests based on supervision, direction, or control for expenses purposes, which will have a knock-on effect on IR35. For example, contractors who are supervised, directed, or controlled by the end client will also be inside IR35 and must operate deemed payment calculations.
The consultation is open until September so more details remain to be seen.
Corporation Tax going down to 18% by 2020.
Corporation tax rate to be cut to 19% in 2017 and 18% by 2020. For contractors with their own limited company, corporation tax rate under small profit remains at 20% in 2016.
For contractors who have an interest in property…
Buy-to-let mortgage relief to be restricted at basic tax rate.
At the moment, landlords can reduce their taxable rental income by claiming tax relief on mortgage interest, which can save as much as 45% tax for a landlord who is on the additional tax rate band. This will be phased out from April 2017 for four years until the tax relief on buy-to-let mortgages are restricted at the basic rate.
Abolition of wear and tear allowance.
Currently, Landlords of Furnished Lettings can claim 10% wear and tear allowance on rent regardless of the level of expenses incurred and no supporting evidence is required when claiming the relief.
From April 2016, wear and tear allowance will be abolished. Landlords of residential property will only be able to claim tax relief on the actual costs of refurnishing and must keep all relevant supporting evidence such as receipts.
Increase rent-a-room relief to £7,500.
Rent-a-room relief will be raised from £4,250 to £7,500 from April 2016.
Inheritance tax allowance on family home.
From April 2017, a family home allowance will be phased in so that family homes can be passed on to descendants tax-free. This allowance is in addition to the existing £325,000 inheritance tax threshold, therefore the total tax-free allowance for a surviving spouse or civil partner could be up to £1 million by 2020/21.
However, the additional allowance will be tapered for estates worth over £2 million.
Please note this is not a comprehensive guide to the Summer Budget 2015 as we have only highlighted a few points that we think are most relevant to our contractor clients. We will be publishing further information when the government publishes the Finance Bill, which will clarify uncertainties surrounding the changes. For full details, please visit:https://www.gov.uk/government/topical-events/budget-july-2015.