Are you ready for the 2016/17 tax year?
Practical advice for contractors and freelancers to prepare for the new tax year.
6 April 2016 signifies not only the new tax year but also the start of substantial changes to dividends, expenses and the likely demise of the traditional Umbrella company.
It can be tough to keep on top of all the latest regulations and remain compliant so this guide has been prepared by specialist contractor accountants at Intouch Accounting to help you make the most of your income in 2016/17.
It will help you consider introducing strategies to minimise your tax. It may even trigger your need to consider entirely new, alternative ways to provide your services
In this guide we will explore what’s to come for Umbrella workers and Limited Company contractors and advise you on what you should be doing NOW to prepare for the new tax year.
Checklist of things you should consider before the 2015/16 tax yearend
Before we look to the new tax year, don’t leave it too late to make the most of the allowances and benefits available to you before 6 April 2016. Make sure you review some of the basics.
Here is our ‘check the basics’ to consider:
- Review your tax code and check adjustments to your personal allowance, including any higher income restrictions.
- Confirm dividends have been declared according to the shares issued by your company, and that you have the dividend vouchers and resolutions.
- Obtain a statement from the Student Loans Company (SLC) whether you’ve made, or are due to make, any student loan repayments.
- Ensure your self-assessment payments on accounts are still appropriate as you could reduce them.
- Check that your pension contributions are up to the right level for you.
- If you own assets jointly, check how income will be split between joint owners.
- Reconsider your contracts and IR35 status.
- Ensure you have made use of your Capital Gains annual exemption.
- Top up your ISA or consider any tax advantaged investments (EIS, VCT, SEIS etc.)
- Consider making Inheritance Tax gifts within the annual exemption.
- Check you have a Will, and it’s still relevant to your circumstances.
If you are unsure about how to tackle any of the above, make sure you enlist the services of a contractor accountant who will be able to help you prepare.
The rest of this guide will help you think about how to get in shape for the 2016/17 tax year.
2016/17 tax year
Currently under an Umbrella? Considering contracting under one? Here we look at the changes for Umbrella workers in the new tax year.
Calling all Umbrella workers!
In the new tax year, Umbrella workers are losing most of their tax relief on expenses, mileage claims, travel and subsistence because of the salary sacrifice and supervision, direction or control tests being introduced on 6 April 2016. This will significantly affect your net take home pay.
Some Umbrellas will switch their services to Limited Company, whilst others will be introducing untested alternative solutions that are likely to be scrutinised by HMRC. If you have been offered either of these solutions, be cautious. Choose the service you feel most comfortable with and above all understand the implications (and what you’ll get for the fee they charge you). If you are not sure explore what is available in the market from other providers.
Managing your salary
Those working under an Umbrella don’t enjoy the same freedoms as Limited Company contractors when it comes to managing salary as they are paid by the Umbrella, based on timesheets and expenses with deductions made for PAYE, NI and the monthly fee payable to the Umbrella.
Operating under an Umbrella significantly reduces the freedoms you have in how you earn and how much.
Thinking about going Limited?
Intouch can help – we’ll incorporate your company for free, including setting up your VAT registration, PAYE and business bank account and you can be the Director of your own company within 24 hours. Get in touch for a no obligation discussion to work out what’s best for your circumstances. Email us or call 01202 901 385.
If you’re not sure which trading model is best for you download our popular guide: Limited Company, Umbrella or Sole Trader – which is the right choice for you? Our free take home pay calculator will quickly help you see if you’d better off being Limited.
What’s changing for contractors and freelancers?
As well as the specific changes hitting Umbrella workers on 6 April, a number of significant changes will come into force, affecting contractors and freelancers:
New dividend tax
In the new tax year, dividends will be taxed differently. The need to gross up a dividend has been withdrawn, meaning the amount you receive is the amount that you will be taxed on. Your dividends will instead be subject to a new dividend tax:
The first £5,000 of dividends are taxed at nil rate.
The new rules will increase the amount of tax payable above the nil rate, but there are opportunities to mitigate this.
If you’re not sure what your dividend policy should be, Intouch offers a personal assessment to identify whether opportunities exists for you. Intouch offers services for clients and non-clients so please contact us for more information and a fixed price.
The only Limited Company contractors affected are those subject to IR35. In the new tax year they will lose their mileage, travel and subsistence expenses.
However, all other Limited Company contractors are offered increased flexibility on expenses. The main changes include:
- Removal of the requirement to report genuine business expenses.
- Replacement of all dispensation with a general reporting exemption
- Greater opportunity to claim flat rate subsistence benchmark scale rates if you can have a checking system in place.
- The introduction of tax free trivial benefits.
Limited Company contractors should be looking at how they can benefit from these changes and whether the use of flat rate subsistence claims would increase their tax relief.
The Employment Allowance will increase to £3,000 from the employer’s National Insurance (NI) payable by your company. If you are subject to IR35 the allowance is not available against any deemed payment, therefore ensure your normal salary is sufficient to use up the allowance.
From 6 April 2016 Employment Allowance will no longer be available if you are the Director and sole employee. Talk to your adviser about your options, especially if your partner or spouse helps you administer the company.
Making the most of tax efficiencies available to you
It’s worth investing some time so you reap the maximum benefits in the long run. A reputable contractor accountant should be able to work with you on this and help you operate in the most tax efficient way
Your adviser can help you set salary levels at the acceptable levels to maximise the available allowance
General guidance for the 2016/17 tax year
Whether you are a Limited Company contractor, working through an Umbrella or as a Sole Trader, you’ll want to make the most of your earnings:
- Manage your tax code – Check that it’s correct
- Check your Self Assessment statement – Are you due a refund or owe any taxes?
What you should be doing if you have a Limited Company
Carefully think about your working practices for each contract that you will complete in the new tax year. We recommend that you look at your contract each time it is renewed and for longer term contracts at least every year.
From 6 April 2016 your status will become more important as the new restrictions of travel and subsistence take hold.
If you consider yourself at any risk that IR35 could apply consider obtaining a review of the relevant contract and working practices.
As an Intouch Accounting client we offer IR35 risk assessments for any new contract you undertake as part of your monthly fee. If you’re not a client, we can still review your contract for a fee.
A dividend can be challenged by HMRC if the proper paperwork is not in place. This could mean that a dividend is treated as salary or loan. The paperwork is very simple and consists of a Director’s Resolution and a dividend voucher. Templates are easily obtainable from your accountant.
Business expenses and Benefits in Kind
Between April 2016 and 6 July 2016 you will need to declare any taxable Benefits in Kind – these are generally expenses paid by the company that are for your personal benefit and have been claimed as business expenses by your company.
To avoid unexpected taxable income and the company suffering Class 1A National Insurance Contributions (NIC) (13.8%) check through the expenses claimed.
If any expenses that have been paid by the company are taxable Benefits in Kind then consider whether it’s better to meet the cost personally, especially if the company owes you money.
When you are a higher rate taxpayer you suffer income tax at 40%/45% whilst your company only gains tax relief at 20% and may also have to pay Class 1A NIC in July.
Other things to consider:
- Don’t get caught out by expenses that are taxable Benefits in Kind
- Check whether your vehicle is owned by the company or personally every year (depending on your circumstances)
- Ensure you claim for all the business expenses you’ll pay personally
- Consider the costs of any childcare vouchers, medical check ups and eye tests and if these can be claimed for through your company
- Obtain the basic trivial benefit rules from your accountant to avoid missing out, or falling foul of the new rules
Always talk to a properly regulated Independent Financial Advisor (IFA) before taking any decision on investments or pensions. Ensure any IFA you engage is regulated by the Financial Conduct Authority (FCA), which provides you with recourse against bad advice.
Remember! Personal contributions to pension schemes attract income tax relief at your highest rate of tax.
Not used all your tax reliefs for the last three tax years? You can carry these forward to the current year in the right circumstances. Equally, if you don’t use all of the current years’ relief, then unused reliefs can also be carried forward.
The rules on pensions and pension contributions are currently undergoing a lot of changes and many reliefs are being restricted and will continue to do so for several years.
Consider whether your company should also be paying pension contributions as it will obtain tax relief on the contributions made.
Your company should be considering its legal obligations under auto enrolment. Whilst most contractors running their own company alone are not included within auto enrolment requirements there are circumstances where it will apply, such as where employees, including spouses, are paid.
- Married? If you haven’t already, consider whether or not your spouse should own shares in your company
- If your spouse does not use all their basic rate tax band then it’s worth having your accountant take a look at your share structure and shareholding to see what benefits could emerge
Check your residency and domicile
Just entered or left the UK, or are planning to leave in 2016/17? Your tax residency in the UK can have a significant effect on the UK taxes that you pay – both Income Tax and Capital Gains.
If you consider you are affected by residency and domicile tax then you must seek personal advice from your accountant
What you should be doing… general considerations
If you have a child for whom Child Benefit is received (even if it’s not you that receives the payments) you should consider the level of your income and whether you will be liable to a tax charge to recoup the Child Benefit payments:
- If your income exceeds £50,000 the Child Benefit tax charge will be proportionately calculated at the rate of 1% of the Child Benefit paid, per £100 earned above £50,000
- If your income is £60,000 or above the full amount of Child Benefit paid is recouped as a tax charge
- If you can move income from one spouse to another and keep both spouses beneath the £50,000 limit then no tax charge will arise
- Consider whether it is worthwhile delaying income, if by doing so your income will fall below £100,000, in order to preserve personal allowances
- Personal allowances are restricted once personal income exceeds £100,000, the restriction being equal to 50% of the excess over £100,000
- If you can move income from one spouse to another and keep both beneath £100,000 then the personal allowances for both spouses can be preserved
Basic rate tax deduction is given at source when you make the donation through Gift Aid.
Higher rate or additional rate UK taxpayers can also obtain further tax relief and you should maintain a record of all Gift Aid donations
Other assets owned jointly
- Married? Consider how income producing assets and investments are owned
- Typically income held jointly is taxed equally but you can change that split if it’s beneficial
- Similarly if you own income producing assets and the income is taxed at higher rates, consider transferring them to your spouse if your spouse pays a lower rate of income tax
- There are numerous rules to consider so always take advice before transferring ownership if electing alters the split of jointly owned assets
If you have sold assets or investments and have realised a gain you may be subject to Capital Gains Tax (CGT)
You are entitled to a tax exemption for the first £11,100 of capital gains without paying any CGT.
If you are inclined to sell investments to create the loss and then buy them back (called bed and breakfasting) be careful of the rules that exist to limit the effect of such transactions.
Many contractors build up a large cash balance in their company over the years.
If you are considering winding up your company you could take advantage of unused CGT allowance and use Entrepreneur’s Relief (ER) to only pay 10% CGT on the excess over the allowance when paying out a final distribution of the surplus cash from your company. Careful planning is appropriate to avoid a number of obvious pitfalls and where the amounts are greater than £25,000 you would need to voluntarily liquidate your company
New rules have been proposed that are expected to become effective on 6 April 2016. By the time new rules are known there will be no time for any voluntary liquidation and where you are caught you will lose the ER and pay tax as though distributions are dividends.
More than one residence
Gains on your main residence are normally free of CGT. If you own more than one property then it’s worth checking how the new main residence rules will affect each property.
The rules relating to main residence CGT exemption are subject to further modification from April 2016.
Tax favoured investments
There are tax favoured investment opportunities available that can reduce your tax liability or offer favourable tax treatments. When considering any such arrangement remember that first and foremost these are tax incentives to invest in high risk business opportunities. You will risk losing your money. You must take professional advice from an IFA before embarking on any such investment
offer opportunities to obtain tax-free income and gains. ISAs are an excellent investment for higher rate taxpayers and the maximum allowance for 2016/17 is £15,240.
The Junior ISA allowance is £4,080 for 2016/17.
From 2016, the income tax exemptions on ISAs will be preserved on death, where one spouse or civil partner leaves it to the other. They remain chargeable to Inheritance Tax (IHT) however.
Allow enough time to consider your options and ensure you are comfortable that the choice you make reflects your attitude to investment.
Enterprise Investment Schemes (EIS), Seed EIS (SEIS) and Venture Capital Trusts (VCTs) offer opportunities to reduce your current income tax liability as well as being tax efficient investments in their own right; with tax exemptions on income and Capital Gains.
Venture Capital Trusts (VCT)
VCTs are specialist investments that enable you to invest indirectly in a range of small higher risk trading companies and securities. VCTs are companies in their own right and are listed on the Stock Exchange
You can obtain income tax relief at 30% of the amount subscribed, subject to a maximum investment of £200,000 per tax year. Tax relief is only available on the purchase of new shares from the company and they must be held for a minimum of five years in order to retain the income tax relief.
Dividends on shares (both new shares and those purchased from another shareholder) are free from income tax and there are also exempt from CGT. Gains from other disposals cannot be rolled into purchases of VCT shares to defer the CGT.
EIS / SEIS
Tax relief is available when you subscribe for shares that qualify for EIS or SEIS relief.
Under the EIS, your tax liability for the year may be reduced by up to 30% of the sum invested (up to a maximum of £1m invested in the year). In addition, Capital Gains from disposals in the previous 36 months or following 12 months may be reinvested into EIS shares, resulting in a deferral of the gain. This can be useful to defer a gain on winding up your company or on other gains you may have made or plan to make next year
The SEIS scheme offers another form of reinvestment relief for investors who subscribe for shares in small start-up companies. For 2016/17, the maximum qualifying investment is £100,000. Income tax relief is given at the rate of 50% of the sum invested, and relief may be given against tax both in 2015/16 and 2016/17. Both EIS and SEIS shares are normally exempt from CGT and IHT although complex qualifying conditions must be met.
You can invest in managed EIS and SEIS funds that combine investments in a broad range of EIS and SEIS companies. These funds could manage your risks through the spreading of your investment between different companies.
Things to consider:
- Wills – have you drawn yours up?
- The Inheritance Tax (IHT) nil rate band – is frozen at £325,000 until 5 April 2018
Other things to consider:
- Annual exemption – up to £3,000 can be given away each tax year. It can also be carried forward (if unused) in that later year
- Small gifts exemption – give up to £250 to as many people as you wish per tax year
- Gifts out of income – does your income exceed your expenditure? If yes you can give away some of the excess. The gift must represent a pattern of giving and it must not result in a reduced standard of living for you.
- Lifetime giving – consider making lifetime gifts in excess of the above exemptions. You must survive such a gift by seven years for it to fall out of your estates entirely, and you must not continue to benefit from the assets once they are gifted. The gifts might be absolute gifts to family members, or they could be gifts into trust. Gifts into trust can give rise to an immediate charge of IHT at the rate of 20% and therefore generally transfers to trust should be limited to the available nil rate band. Trusts can be very beneficial, but specialist advice is needed.
- IHT efficient investments – IHT efficient investments, for example, shares in qualifying AIM listed companies, benefit from business property relief and as such are relieved from IHT after they have been owned for two years.
There are lots of other tax exemptions you could consider, so here’s a quick list of other things that might apply to you:
- Blind dependent relative
- Age allowance
- Married couples age allowance
- Income from Rent a Room and other buy to let or property income
- Self employed and Partnership income and tax planning of those business profits
Make sure you’re in the best shape for the new tax year and beyond so that you get the best and the most out of contracting.
If you are thinking of starting your own Limited Company, it’s important to know your options. Ideally, discuss this with a professional contractor accountant to work through what’s right for your circumstances. Contact us today for a no obligation discussion.
Read our guide for freelancers and contractors: Limited Company , Umbrella or Sole Trader – which is the right choice for you?