The Budget 2011 commentaries - Personal tax & trusts
The commentaries below are written in general terms. Details can also be found in our downloadable Budget Report brochure. You are strongly recommended to seek specific advice before taking any action based on the information given, both in the commentaries and in the publication.
Personal income tax and NIC rates and thresholds
Income tax rates and thresholds will remain at their 2010/11 levels in 2011/12, except where noted below. All rates and thresholds are set out in the Appendix.
The main and additional rates of NICs will increase by 1% for 2011/12. The primary threshold will rise from £110 to £139 per week and the secondary threshold will rise from £110 to £136 per week. The upper earnings and profits limits for NICs will be reduced by £1,400 so that they remain aligned to the higher rate threshold.
The personal allowance for under 65s will increase by £1,000 to £7,475 for 2011/12. However, the benefit of this increase will not be passed onto higher rate tax payers as the upper threshold of the basic rate band will be reduced by £2,400 to £35,000.
For 2012/13, the personal allowance for under 65s will increase by a further £630 to £8,105. The benefit of this increase will be passed on in part to higher rate tax payers as the upper threshold of the basic rate band will be reduced by £630 only to £34,370.
From 2012/13 income tax and NICs (along with other direct taxes and ISAs) will be linked by default to the Consumer Prices Index (CPI) rather than the Retail Prices Index (RPI) unless specified otherwise. However, employer NICs and age-related thresholds will be indexed to RPI for the duration of this Parliament.
Comment: The rates and increases for 2011/12 had all been announced in previous Budgets. The Chancellor was at pains to stress that the 1% NIC increase and the 50% income tax rate had both been proposed by the previous administration. He also highlighted that his change to this inherited programme in raising the threshold for NICs softened the impact of the increase; overlooking that the Conservatives campaign implied an intent to scrap the 1% NIC rate increase altogether.
The wider backdrop was to present the 50% income tax rate as necessary, but temporary. The Chancellor also announced that consultation will begin on merging income tax and NIC rates in an effort to simplify, but not increase taxes. This consultation is expected to last for a number of years.
Income tax and NIC reform
Over recent months both the influential Mirrlees report and the recent report of the Office of Tax Simplification (OTS) into the taxation of small businesses have recommended that Government should consider the merger of income tax and NIC.
In his speech the Chancellor made reference to the fact that income tax and NIC have operated as two fundamentally different systems, resulting in unnecessary costs for employers. He announced that the Government will consult on ‘merging the operation of income tax and NIC’. The Budget report recognises that any change will be complex and involve a wide range of policy and implementation issues. It makes it clear that the contributory principle will be maintained and NICs will not be extended to individuals above the state pension age or forms of income other than earnings (for example pensions, savings and dividends).
Comment: It is not clear from what has been said so far whether the Government has in mind a full merger of income tax and NIC, resulting in a single rate of tax on earnings, or whether it is thinking in terms of keeping the two taxes running in parallel but with identical definitions.
Whilst the latter course would improve the position, there is a ‘once in a generation’ opportunity here for a major simplification of the tax code by means of a full merger of the two taxes, although the resulting increase in the basic rate of income tax would need to be carefully explained to taxpayers.
Nothing was said about employers’ NIC. Employers’ NIC is a major contributor to the total tax take, producing something in excess of £50bn a year, but it is essentially a payroll tax masquerading under a different name and it is unlikely that it will be scrapped.
The possibility of merging income tax and NIC is clearly a major issue and it is not going to be resolved any time soon, but in the meantime there is clear scope to modernise the current system for collecting NIC.
From 6 April 2011, Class 2 NIC will be collected on 31 July and 31 January (the same dates that income tax is payable), but by an entirely separate payment process. An individual who is both employed and self-employed has the right to defer paying Class 2 and 4 contributions until the precise liability is known after the end of the tax year, but this deferment process is paper based and outside the normal self-assessment system. Bearing in mind that all self-employed individuals are in the self-assessment system the OTS recommended that Class 2 and 4 NICs should be brought within that system also.
Review of non-domicile taxation
The Government announced in Budget 2010 that it would review the taxation of non-UK domiciled individuals. In this Budget, the following reforms have been proposed:
- increasing the existing remittance basis charge (RBC) from the current £30,000 per year to £50,000 per year for individuals who have been UK resident for twelve or more of the previous fifteen years and who are claiming the remittance basis of taxation. The £30,000 RBC will remain for those who have been UK resident for at least seven of the past nine years but less than twelve;
- removing the charge to tax when non-UK domiciled individuals claiming the remittance basis remit foreign income or capital gains for the purpose of commercial investment in UK businesses; and
- simplifying some aspects of the non-UK domicile rules to remove undue administrative burdens.
The Government will consult on the detail in June with the intention of introducing the changes from April 2012, and has confirmed that there will be no further substantive changes to these rules for the remainder of this Parliament.
Comment: Commentators had speculated ever since the RBC was announced in the 2007 PBR that raising the RBC would be a tempting and popular method of increasing tax revenues. Bankers have been bearing the brunt of populist taxes but this opportunity has proved too tempting to ignore. The increased RBC is to some extent balanced out by the exemption for remittances for the purpose of commercial investment in UK businesses. It will be interesting to see how non-UK domiciled individuals react to these changes and whether this will result in an increased exodus from the UK.
The expression ‘for the purpose of commercial investment in UK businesses’ will need to be clarified and it is frustrating that further details are not available at this stage. It is likely that anti-avoidance rules will be introduced to prevent any perceived abuse of this measure.
Any simplification of the non-UK domicile rules would be welcome but the extent to which this will actually assist non-UK domiciled individuals is not yet known.
Statutory residence test
The Government has announced that it will consult in June on the introduction of a statutory residence test to provide greater certainty for taxpayers. It is intended that this will be implemented from April 2012.
Comment: Currently residence is a very complex area and taxpayers often have no certainty as to their residence position, especially when trying to make a distinct break from the UK. The introduction of a clear and ideally internationally competitive statutory residence test is long overdue and would be a welcome development.
Capital gains tax (CGT): Increase in lifetime limit on entrepreneurs’ relief
Entrepreneurs’ relief (ER) was introduced in the 2008 Budget at the same time as other major changes to the CGT regime, including the introduction of a flat CGT rate of 18%.
ER gives individuals the ability to make a claim for an effective CGT rate of 10% on certain qualifying disposals of business interests. Each individual had a lifetime limit of £1m of gains that could be covered by ER. That limit was increased to £2m from 6 April 2010 and then to £5m from 23 June 2010.
From 6 April 2011 all qualifying gains up to an increased lifetime limit of £10m will attract the 10% tax rate.
In order to qualify for the relief, the disposal must be of:
- all or part of a trading business carried on by the individual, whether alone or in partnership;
- assets used in the individual’s business, whether alone or in partnership;
- shares in the individual’s personal trading company; or
- assets owned by the individual and used by his personal trading company.
For the purposes of the relief, a personal trading company is one where the individual was an officer or employee of the company holding at least 5% of the share capital (which must carry at least 5% of the voting rights), with both conditions having been met throughout the 12-month period ending on the date of the disposal. If a trade ceases, the disposal must be made within three years of cessation of the trade. The relief can also be claimed by trustees but only if a beneficiary personally qualifies by satisfying the rules, including the requirement for a minimum 5% personal shareholding.
If the previous lifetime limit has been used, or partly used, at 5 April 2011, additional relief up to the new limit of £10m will still be available, although the increased limit will only be available for further gains realised from 6 April 2011. No other changes are made to the rules for the relief.
Comment: The doubling in the ER lifetime limit to £10m is a welcome increase for entrepreneurs. The Treasury estimates 25,000 to 30,000 people each year are claiming ER. To further encourage business owners, it would have been helpful to relax some of the qualifying rules, particularly the 5% holding requirement.