Soundbites and small print

Tony Wickenden, JT MD, Technical Connection, stresses the importance of looking past tax headlines in order to offer clarity to clients


As finance professionals, we all know better than to take a government (or opposition) soundbite at face value. And we’ve had quite a few tax-based soundbites to consider over the past year or so.

Three recent examples spring to mind: no tax on pension death benefits; £1m passing inheritance tax (IHT) free; and less pensions tax relief for high earners.

Each headline on its own looks eminently sensible – appealing even. So what’s to question? Well, quite a lot of detail actually. And clients who could be affected by these changes need informed advice. It’s absolutely essential that they understand what those headlines actually mean. And to do that, they will need a clear explanation delivered in an understandable way, so that they can decide what, if any, action to take.

The ‘no tax on death benefits’ headline came from the Chancellor at the Conservative party conference in 2014, about the time of (and arguably to deflect attention from) the defection of the aptly named Mr Reckless to UKIP.

What Mr Osborne said was: “There are still rules that say you can’t pass on to the next generation any of your pension pot when you die without paying a punitive 55% of it in tax. I could choose to cut this tax rate. Instead, I choose to abolish it altogether.”

That may have been his intention, but in fact, like the other two quite concise and superficially easy to understand soundbites:

  • it’s not strictly true; and
  • it requires a mass of enabling legislation and guidance to make it work.

And the problem is that the very process of producing it gives rule writers the opportunity to introduce small print and conditions. These will (obviously) not have been referenced in the soundbite, but they will limit the number of people who can benefit from the process and thus limit its tax cost to the Treasury.
The neat thing about conditions introduced at the legislative stage is that people have the headlines, but not the detail

And that’s what your clients will need to know. Basically, “How does the change affect me?” And, “What, if anything, do I need to do about it?” The neat thing about conditions introduced at the legislative stage is that people have the headlines, but not the detail. They will very rarely pore over the legislation. Why would they? This is a variation on the stealth tax theme if ever there was one.

In relation to the promise “to abolish it [tax on pension death benefits] altogether”, the magnitude of the difference between this statement and reality is quite spectacular. Most obvious is that the payment of death benefits is tax free (however it’s received, as a lump sum or income drawdown) only if you die under the age of 75. Die at age 75 or over and it’s all taxable. The tax rate on a lump sum is 45% if paid in this tax year and at the recipient beneficiary’s rate if paid from the next tax year. If the lump sum is paid following death at age 75 or over to a ‘non-qualifying person’ from 6 April this year, for example to a bypass trust, the rate will remain at 45%, but there will be a tax credit available to any beneficiary who (eventually) receives a payment from the trust taxable as pension income. Drawdown payments made following the death of a member aged 75 or over will be taxed as pension income at the receiving beneficiary’s income tax rate.

Clients with meaningful levels of pension funds are likely to need clarity on the tax position, plus an understanding of the (unjustifiably complex) rules relating to who can receive death benefits and in what form. Keeping death benefit nominations and expressions of wishes under regular review is, as a result, essential. Who better than their financial adviser to do this and to make them aware of the potential pitfalls and opportunities?

Number two soundbite: “A couple can leave £1m free of IHT.” That may well be what is understood by your clients, leading them to think there’s no need for them to worry too much about it. It’s up to you to ensure they are informed about this. The legislation supporting this change to IHT in the shape of a new residence nil rate band is positively labyrinthine. It runs to ten pages of the Summer Finance Bill 2015.

The key messages to impart to your clients in relation to this new IHT relief are as follows:

  • It doesn’t start until 6 April 2017
  • It’s not an increase in the nil rate band to £1m, or even £500,000. Instead it’s the introduction of a new residence nil rate band (RNRB)
  • This new RNRB will end up at £175,000 (in addition to the ordinary £325,000 all asset nil rate band), but starts at £100,000 and gradually (over four years) moves up to £175,000
  • You can have only one qualifying interest in one property
  • The property has to have actually been used as your residence at some point
  • You have to leave your interest to a qualifying individual, broadly a direct lineal descendant
  • You can’t leave your interest subject to a trust, other than a bare trust
  • The relief gets cut back by £1 for every £2 that your estate exceeds £2m
  • For the purpose of this relief, and specifically its cutting back, no account is taken of any reliefs, such as business property relief and agricultural property relief, in determining the value of your estate.

So that’s not quite what your clients might have had in mind when they thought about this new IHT relief. It’s your responsibility to explain how, and to what extent, they will benefit, if at all, and then to factor it into their estate planning strategy.
It’s your responsibility to explain how, and to what extent, your clients will benefit, if at all, and then to factor it into their estate planning strategy

On to the soundbite of cutting back pensions tax relief for high earners. What this really means is a gradual reduction of the annual allowance for those caught. It’s often stated that only those ‘earning’ more than £150,000 are caught, but it’s not that simple.

It’s actually those with ‘adjusted income’ of more than £150,000 that could be caught. Broadly speaking, in determining adjusted income, you have to take account of all income (including all investment income, for example, interest, dividends, rents) and add back all employer pension contributions and all contributions made by the member under the net pay system.

The guidance notes to the Finance Bill on adjusted income make it clear that annual allowance tapering is likely to affect many more individuals than one might think. But that’s not the end of it. There’s another test that might exclude some, who would otherwise be caught, from suffering the annual allowance reduction. Broadly speaking, even if you are caught under the £150,000 ‘adjusted income’ test, you will be excluded if your ‘threshold income’ is below £110,000. Threshold income is broadly income from all sources, but without adding back either personal pension contributions (made under the net pay system) or employer pension contributions.

Complicated enough? And keep in mind that, in practice, you will only know for sure what your income level will be after the end of a tax year. If you are caught, then your annual allowance will be reduced by £1 for every £2 that your adjusted income exceeds £150,000. This goes on until the £40,000 starting annual allowance is cut back to £10,000. This is as low as it can go, and you reach it when your adjusted income hits £210,000, assuming, of course, that your threshold income exceeds £110,000. There will be very few of your clients who will know this detail.

Tony Wickenden’s firm Technical Connection provides tax, legal and financial planning support, insight and interpretation to financial advisers and planners through an online management platform, Techlink Professional, covering tax, trusts, financial and estate planning, and much else besides, all with automated CPD logging facilities. Visit www.techlink. for full details and a free trial.And a related, but important change, is the need to align pension input periods (PIPs) with the tax year leading to some transitional ‘PIP alignment’ changes and, probably, planning opportunities for this tax year. Many of your clients with pension arrangements will need to have these changes explained to them and a resulting action plan constructed.

So, three simple statements leading to three very strong reasons for advisers to inform and plan for their clients. And while you’re about it, don’t forget yourselves and your professional connections.

This article was originally published in the December print edition of the Review.
Published: 18 Jan 2016
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