Tax Freedom Day fell on the 29 May this year, three days later than in 2017 and the latest in over two decades, showing that Brits are having to work more days to pay off their tax bill. Here we give you some simple tax-saving tips to help you make your hard-earned money go further.
Each year, the Adam Smith Institute calculates the number of days the average person has to work to pay its taxes. From that day onwards, employees are working for themselves.
Put simply, the calculation aims to show whether the amount the so-called ‘average’ Brit is paying in tax is rising or falling. But in reality, it’s quite complicated to measure.
Firstly, as the UK doesn’t have a proportional system, there’s no average Brit when it comes to paying taxes. Tax Freedom Day will come more quickly for those who are on a lower income, whilst it will come later for those on higher income, in theory.
Secondly, the Adam Smith Institute measures the total tax take. This means they include indirect taxes like VAT and corporation tax) in addition to the direct tax you pay (like national insurance and income tax).
The Institute also flags that its complicated calculation also includes depreciation and foreign investment earnings to measure taxes over net national income. As the Office for National Statistics regularly revises its figures, any changes feed through into the calculation, too.
It’s easy to tie in political debate to a discussion on taxes, but numbers from the institute show that the trend for paying higher taxes is well established, no matter which party has been in power. We’re not here to talk about political ideology, but are here to help you make your money go further so you can reach your financial goals.
That’s why it’s important to make the most of your money where you can. There are some simple tax benefits to take advantage of when investing, that can help maximise your returns.
The more money you can keep invested in the markets, the more you can benefit from compound returns. This is one of the most powerful forces of the investment world. It’s when the return on your investments are reinvested and earn their own return.
Simple tax saving tips for investors on Tax Freedom Day
It’s important to remember that tax rules might change in the future, so the sooner you start making the most of the tax benefits available to you, the better.
Invest in an ISA
You can invest up to £20,000 in your ISA each financial year and any growth in the value of your money and any income can build up protected in a tax-free wrapper. This can make a real difference over the long-term and means you get to keep more of your money.
Whilst you can put your money in a cash ISA, you risk losing value to inflation if your returns aren’t keeping up with the rate of price growth. By investing your money in a diversified portfolio, you can look to offset inflation and grow our money to reach your financial goals.
Invest in a Pension
The government wants you to save for your retirement, that’s why it’s one of the most generous tax wrappers you can find. You can find tax advantages when you invest in a pension, whilst your money is sitting in your pension pot, and also when you withdraw.
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Pension tax benefits: When you invest
When you invest in a personal pension, you can claim tax relief relative to your income tax band. Basic rate taxpayers get 20% relief on their pension contributions, whilst those in the higher and additional tax bands get 40% and 45% respectively.
You can usually get the basic rate tax relief added to your contribution through your provider, which means you only pay in £8,000 for an overall £10,000 deposit. At Moneyfarm, we do this automatically for you so you can get your money working harder for you earlier – it’s effectively a 25% boost to your savings.
Don’t forget to claim back for any further tax relief through your annual tax return, this can make a real difference to your pension income through retirement.
Pension tax benefits: When your money is invested
Much like an ISA, your pension investments can grow protected in a tax-free wrapper. When you sell your pension investments, you won’t need to pay capital gains tax (CGT) if you cross over the annual exempt allowance.
This CGT is charged at 10% and 20% for individuals, not including residential property. CGT could eat into your retirement income if you didn’t protect your pension in a SIPP wrapper.
Pension tax benefits: When you withdraw from your pension
Once you reach the age of 55, you can take 25% of your pension pot tax free, with the remainder being used to provide you with an income throughout retirement – typically through an annuity or income drawdown.
If you have no need for a big lump-sum, you can chose to take your tax-relief through your withdrawals. A quarter of each withdrawal will be tax-free, with the remainder being taxed your usual rate of income tax.
It’s reasonable to assume your investments will grow by an annualised 5% over the long-term – seeing as retirement can last over 30 years that’s definitely the long-term time horizon. That means you could keep more of your money by opting for tax relief on your withdrawals instead of as a lump-sum.
There could be inheritance tax benefits to keeping your money invested instead if taking the tax-free lump-sum. Your pension is passed on tax free if you die before the age of 75. If you take your tax-free lump sum, this will be counted as your estate and could mean a higher inheritance tax bill for your children or spouse.
Pension tax benefits: If you’re Self-employed
If you’re an employee of your own company, you may be able to make employer contributions into your personal pension.
Since pension contributions count as an allowable expense, you can deduct them when you’re calculating your business’ taxable profits. You don’t pay National Insurance on pension contributions either, so you could take a chunk off your tax bill by paying into your pension.
Make the most of the tax benefits available to you
When it feels like you’re giving more of your money to the taxman, it’s important you make the most of the generous tax benefits available to you. Forget any complicated investment strategies, these five simple tips can help your money go further, and maximise your returns.