ISA Tax Year End

ISA - Tax Year End Action

by Ashley Clark, Director - March 2010

ISAs

The announcement by the Government in the 2009 Budget that the annual Individual Savings Account (ISA) subscription limit was to increase to £10,200 (from £7,200) for those aged at least 50 in tax year 2009/10 may not have seemed much of a concession – especially given the current low dividend and interest yields.  However, in a climate where people need to take more personal control over their retirement provision, this can be a useful long-term concession.  For example, for somebody aged 45 now who plans to retire in 20 years’ time, this will mean that an extra £60,000 can be salted away into an ISA over that 20 year period.  And as this will be accumulating in a highly tax efficient environment, this will provide an opportunity for better investment returns, particularly for the higher rate taxpayer who will not then pay higher rate tax on dividend income or interest.

For the 50 year olds who can now invest £10,200 in an ISA, up to £5,100 of this can be invested in a cash ISA.  From 6 April 2010, these limits will apply to everyone who is eligible, irrespective of age.

Here is a recap of the main tax benefits of ISAs:-

1.  Taxpayers who pay CGT can save £1,800 for every £10,000 of capital gain

On gains that exceed the annual exemption of £10,100 (2009/10), CGT is now only 18%.  Whilst this tax rate is low it needs to be remembered that neither taper relief nor indexation allowance have been available to private investors since April 2008 and so taxable gains will be correspondingly higher.

“Bed and breakfasting” (selling a holding then buying it back to rebase the base cost with the aim of using the annual CGT exemption and saving future CGT) is not permitted within a 30 day period.  However, an investor can “bed and ISA”.  This means that funds or shares to the value of £7,200 (£10,200 for the over 50s) can be sold and repurchased in an ISA - at the same day’s prices.  Because future growth and income within the ISA are free of tax, this is an ideal way to shelter existing investments from tax.  The sale into the ISA creates a charge to CGT, but
the capital gain is usually covered by the CGT annual exemption.


In April 2010, a couple who are over 50 could transfer £40,800 of existing shares or funds into ISAs (by investing in two instalments so as to use their two tax years’ ISA allowances).  Care would have to be taken that the capital gain arising on the shares or funds sold did not exceed their annual CGT exemptions.

2.  Employees in Save As Your Earn (SAYE) option schemes and Share Incentive Plans (SIPs) can, on maturity, transfer shares to the value of the ISA contribution limit and so avoid future CGT on the growth

Employees have 90 days to transfer maturing shares from SAYE schemes/SIPs into an ISA.  The value of the shares transferred counts as the ISA contribution.  Once inside the ISA there is no CGT (or income tax on future dividends) to pay.

3.  Basic rate taxpayers can save as much as £2,000 on £10,000 of income within the ISA

Basic rate taxpayers save 20% income tax on interest generated from a cash or fixed-interest ISA.  No income tax saving arises on shares in an ISA investing in equities because the notional 10% tax credit on dividends meets their basic rate liability outside the ISA and the tax credit is not recoverable inside the ISA.

4.  Higher rate taxpayers can save as much as £4,000 on £10,000 of income within the ISA

Higher rate taxpayers pay 40% income tax on interest from cash and fixed-interest funds and 22.5% additional income tax on grossed-up dividend income from equity funds.  No higher rate tax is paid by the investor on income arising on investments within an ISA.

From April 2010, investors whose taxable income exceeds £150,000 a year will pay 50% tax on income above the £150,000 limit.  These investors can therefore save 50% income tax on interest from cash and fixed-interest funds and 32.5% income tax on dividend income from equity funds.  For example, a £90 net dividend represents a £100 gross dividend and, if held direct, these investors would pay an additional £32.50 in tax.  If the investment is held in an ISA, this is not paid.

5.  Persons aged over 65, with income of £22,900 or more, can save up to £603 in income tax

For those investors aged 65 to 74, the personal allowance increases from £6,475 to £9,490.  However, for every £2 of income over £22,900 the additional age-related allowance is reduced by £1 and is completely extinguished when income reaches £28,930.  This represents an effective tax rate of 30%, and for those with income of £28,930 will attract an additional £603 in income tax.  As ISA income does not count towards this age allowance test, by holding investments in an ISA this can save up to £603 a year.

6.  Those with income of £100,000 and over can save up to as £2,590 by avoiding the loss of the basic personal allowance (2010/11)

The Government has introduced a new personal allowance “stealth” tax for those with an annual income of £100,000 or more.  From 2010/11 the basic personal allowance of such people is gradually reduced.  For every £2 of income over £100,000, the basic personal allowance reduces by £1 and is completely extinguished by the time that income reaches £112,950 (assuming the basic personal allowance remains the same in 2010/11).  This is an effective tax rate of 60% on income in this band and for those with income of £112,950, will attract an extra £2,590 in tax.  

For some people in this position it may be possible to reduce their income below £100,000 by reallocating investments between spouses and by investing in other tax-free or tax efficient investments.  One such investment is an ISA because ISA income does not count towards this personal allowance test.  In the right circumstances, if a person can fully reinstate their personal allowance, they can save up to £2,590 a year in tax.

Action - ISAs can be used for a number of tax planning reasons.  Contact us for information on the most appropriate cash or share-based ISAs for your clients.