The UK tax system is built upon independent taxation. You are taxed on your own income and gains, and have your own set of tax allowances. For families, this can lead to allowances being wasted and overall tax bills being higher than they need to be. In short, an unnecessary drag on returns.
Treating the family finances collectively and getting the most out of the allowances on offer can boost savings. It’s just a matter of getting the advice right. While tax allowances can’t actually be passed on to partners, tax relief and taxable income and gains can. The result – savings may last longer in retirement and increase the legacy available for future generations.
Double up on savings tax breaks
Considering yourself as a family unit, the pension annual allowance doubles to £80,000, with half as much again available to pay into an ISA.
You should be aware you can use your spouse or partner’s ISA allowance to allow them to save tax free. This now allows you as a couple to save up to £40,000 a year into ISAs.
What may be less obvious is the ability to top up your spouse or partner’s pension. Thanks to tax relief, spreading pension saving between different family members could secure a much better financial future for your family than saving into your ISA.
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A squeeze on pension funding
If you have previously enjoyed putting large contributions into your pension you may have seen the scope for your funding eroded by cuts in the lifetime allowance and the tapering of your annual allowance. If you are feeling the pension funding pinch you may need to seek an alternative home for your retirement savings. But the most tax efficient solution could lie close to home – by topping up your spouse or partner’s pension.
And remember, contributions aren’t limited to £3,600 but by the difference in your partner’s current payments and their earnings. That’s potential for up to £80,000 of tax relievable pension savings each year.
But it isn’t just those who have their funding options restricted who may wish to direct their pension saving towards their spouse or partner. There are other reasons why this might make financial sense.
- If your spouse pays tax at a lower rate than you, it may make sense to divert pension saving to your earnings to take advantage of more tax relief at higher rates. But this should only be considered if it doesn’t affect entitlement to employer contributions from a workplace pension.
- A gross pension contribution reduces the income used to determine eligibility for certain allowances and benefits. Switching funding to the highest earner could not only see an increase in the tax relief available but could also result in allowances being retained. For example, personal contributions reduce the income used to test eligibility for the following allowances;
Personal allowance (Reduces when income exceeds £100K) – a tax saving of up to £4,600.
Child Benefit (Reduces when income exceeds £50K) – worth £5,002 for a family with 3 kids.
Threshold Income for the Tapered Annual Allowance (£110K) – could mean extra £30K of pension funding available.
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Two allowances are better than one when taking benefits
But it isn’t just when saving that you can benefit from sharing allowances. Using two sets of allowances when accessing savings can reduce the tax payable, giving your family more spendable income in retirement.
The table below highlights the difference having two lots of allowances can have on income in retirement compared to having all the pension wealth owned by one spouse.
Transferring assets between spouses
There are also other allowances which your spouse can use to access your savings tax efficiently.
You have your own annual CGT allowance. A disposal of a jointly owned asset would mean that two allowances could be used to offset any capital gains.
And it’s possible to transfer assets between spouses without creating a tax charge. Transfers between spouses are on a ‘no loss/no gain’ basis, with the second spouse deemed to have acquired the assets at the original base cost. Any gain is deferred until the second spouse makes a disposal. However, this only applies to transfers between spouses and civil partners living together at the time of the transfer. Transfers will be a disposal for unmarried couples and separated spouses.
Not only can this mean that both allowances can be used, but transferring assets to a lower taxpaying spouse could mean that gains in excess of the exemption can be taxed at 10% rather than the full 20% rate.
Changing who is taxable and the ability to control when tax becomes payable offer valuable planning options. Shifting the tax liability to a lower taxpaying spouse or partner can allow profits to be extracted tax efficiently. This could be a way of providing tax efficient retirement income or simply to allow existing investments to be recycled into something more tax efficient such as your pension or ISA.
Bond assignment between family members
Investment bonds can also be assigned between owners without creating a tax charge. Bonds are subject to income tax under the chargeable event rules. But there’s no chargeable event when a bond is assigned. The new owner is assessable for all future chargeable gains as if they had owned the bond from inception.
Offshore bonds gains are treated as savings income. So if you have little or no other income you may also be able to use your savings rate band and personal savings allowance as a way to extract profits tax free, in addition to your personal allowance. Overall, that’s a potential for gains of up to £17,500 to be taken.
There’s a 20% tax credit for tax deducted within the fund on onshore bonds which cannot be reclaimed. So gains will never be tax free. However, providing the gain after top slicing doesn’t push you into higher rate tax, there’s no further tax to pay.
Unlike the CGT rules, assignment isn’t restricted to spouses and civil partners. For example, assignments to lower tax or non-taxpaying children is a way for your family unit to benefit from further unused allowances – an ideal option for university funding perhaps. Provided the assignment isn’t for consideration (for money or money’s worth) there’s no immediate tax charge.
Transfers between spouses are acceptable planning
Transferring assets into a spouses name shortly before surrender to reduce the tax payable on the proceeds is not deemed to be contentious. In HMRCs eyes, it’s acceptable planning and is simply taking advantage of accepted and established practice.
This is highlighted in an example of gifts between spouses in the HMRC General Anti-Abuse Rule (GAAR) Guidance.
“There are no abnormal or contrived steps here; the transactions are normal arrangements between spouses or civil partners.” HMRC GAAR Guidance March 2017.
IHT – nil rate bands
If you are a widower you can also share any unused part of a deceased spouses IHT nil rate band. It’s the unused percentage of the nil rate band from the estate of the first to die which can be claimed on the second death.
The Residence Nil Rate Band, which is available where your family home passes to direct descendants on death, is also transferable between your spouse or civil partner. This is irrespective of when the first death occurred or whether you owned residential property on your death. 100% of the first to die’s RNRB can be claimed unless your estate was greater than £2M.
Summary
Considering finances as a family can boost lifetime savings and make those savings last longer in retirement. Of course, this won’t suit everyone and some will prefer their own financial freedom and control.