For many contractors, 31st March is also the end of company tax year, which coincides nicely with the end of the financial tax year on 5th April 2012. Making decisions prior to these dates gives you the potential to save significant amounts of company tax and personal tax.  We have included in this article a summary of the main tax saving opportunities for contractors and freelancers.

ISAs:

• The allowance for a Cash ISA is £5,340. Or, you can invest the full £10,680 into a Stocks and Shares ISA.
• Remember, you can only have one Cash ISA and one Stocks and Shares ISA in any tax year.
• With such poor cash rates available and whilst we are experiencing such high inflation rates, the stocks and shares option is currently the preferred option for many people.
• If you are disappointed by the returns currently available from cash accounts, did you know that you can transfer Cash ISAs into Equity ISAs? (But not vice versa.)
• Did you know that the current ISA allowance of £10,680 will increase to £11,280 for 2012/13? This  can be split between cash and equities or purely put in equities. For couples, this means that £43,920 can be sheltered in ISAs over the next two months.
• Junior ISAs were launched in November 2011, aimed at children under age 18 who do not already have a Child Trust Fund. Up to £3,600 can be invested each year tax efficiently on behalf of a child (by parents, grandparents, other other relatives or friends). There are other rules to consider, so do get in touch if this is of interest.
  
  
  N.B. Always remember that investing in an ISA must be paid out of personal income (not company income).

Pensions:

• Pension contributions are one of the best ways to reduce Corporation Tax, if paid by the company.
• The new pension "Carry Forward" rules are extremely useful, allowing you to contribute any unused annual allowance from the last three tax years. This represents a fantastic tax planning opportunity for contractors, especially if you have accumulated large cash surpluses in your business.
• Contractors and Freelancers operating through a limited company should aim to make gross, employer pension contributions before the end of their company tax year (often 31st March) so that you can benefit form the corporation tax saving, 9 months after the end of your company tax year.  The financial tax year ending on 5th April 2012 is only relevant to 'personal' pension contributions which are paid from net income.
  
• Using 'Carry Forward' high earners and business owners can contribute up to £200,000 tax efficiently into a pension, using unused allowances of the last 3 years. 
• The 2011 Autumn Statement from the Chancellor made Carry Forward even more flexible.  Click here for an example of Carry Forward and further reading.
• Contractor clients that we work with have utilised these rules and one saved over £40,000 in potential tax liabilities. We would encourage you to contact us if you wish to discuss this further. 
• The maximum you can hold in tax favoured pension schemes is £1.8 million in 2011/12. This limit is to be reduced to £1.5 million from 6 April 2012. However, there are transitional rules which will protect the £1.8 million lifetime limit for those who have been funding their pension on the basis of that higher limit
• Applications for this fixed protection must be made to HMRC before 6 April 2012 and you will then generally not be able to make any further contributions into your pension.  If you are affected by this issue, please contact Wealth Matters as we can assist in this area.
• Contracting in/out of the second state pension (S2P): For most contractors who pay a relatively modest salary (e.g. £7,000), it is beneficial to be contracted IN, to the S2P.  The reason is that you receive a top up to your basis state pension (called an additional state pension) based on earnings of £14,400 (called the Low Earnings Threshold).

Inheritance Tax Planning:

• You can give away gifts worth up to £3,000 in each tax year (from personal capital, not business capital) and these gifts will be exempt from Inheritance Tax when you die.
• You can carry forward any unused part of the £3,000 exemption to the following year and it is in addition to the exemption in the current tax year, so you can gift £6000 in this case, before 6th April 2012.
• Remember that regular gifts out of excess income can also be exempt.

Capital Gains Tax:

• Each year an individual has an annual exemption to gains that are free of tax. This year it is £10,600. An individual can realise total net capital gains (gains less losses) of up to £10,600 from 6 April 2011 to 5 April 2012 without incurring a CGT liability.
• The exemption is an annual allowance and cannot be carried forward.
• Spouses can also gift assets to each other without incurring a CGT charge.

Income tax saving for couples:

• Any personal allowance that is unused at the end of the tax year cannot be carried forward, so it is normal to ensure that so far as possible these allowances are covered by your income.This is particularly relevant to couples where income taxable on one might be covered by personal allowances if received by the other. However, it is not possible just to ‘gift’ the income in any year to a partner as tax law prevents obvious avoidance of this nature, so here are some practical ideas,with their limitations:

Jointly owned businesses:

• Where a couple jointly own a business, either a partnership or limited company, there is anti avoidance legislation designed to prevent very obvious cases of income shifting between the couple. It is not possible to transfer income between spouses by allocating preference shares to one spouse, but if the ordinary share capital is owned in equal shares, then any dividends paid on the shares do not fall foul of the legislation. Generally speaking, unmarried couples can use this technique, provided the income passed between them does not benefit the original owner after the transfer or issue of the shares.

Extracting profits from your company:

Salary (and National Insurance issues):

• You should consider reviewing the level of salary you pay yourself (and your spouse if relevant) with your accountant from 6th April 2012 as the thresholds are changing.
• As long as you pay at least the Lower Earnings Limit (£5,564) from 6th April 2012, you will gain a qualifying year for your state pension, both basic and earnings related elements (even though you are not actually paying any National Insurance Contributions (NICs).
• A salary that exceeds the Lower Earnings Limit for NICs must be reported to HMRC at the end of the year on the annual payroll return(form P35)
• The primary threshold is the level over which the employer pays NICs of 13.8% (up to the total level of salary).  From 6th April 2012, this will be £146 per week or £7,592 per annum.
• The secondary threshold is the level over which the employee pays NICs of 12% (up to the Upper Earnings Limits which is £817 per week or £42,484 per annum).  From 6th April 2012, the secondary threshold will be £144 per week or £7,488 per annum.
• National insurance contributions can be expensive with employee and employer NICs amounting to 25.8 per cent on salary over £7,592 (the primary threshold) but salary can be deducted from taxable profits in the company.
• If one partner has a business but does not wish to transfer it into joint names, it might be possible to pay the other a salary from the business and obtain a tax deduction for it against the profits. The salary must be appropriate for the services provided, so should be no more than would be paid to an unconnected person doing the same work, but as well as providing a modest income for the partner it could also protect their state pension rights if they are not working in any other capacity.

Dividends:

• If you operate your business as a company in which you and your partner both have shares, you could consider paying a dividend before 6 April 2012. This will be beneficial if the gross income (the dividend plus the tax credit) will fall into the basic rate band this year for one or both of you, or if at least one of you expects to pay tax at the additional rate (42.5% on dividend income over £150,000) next year but not this year.
• You should speak to your accountant about timing of dividend payments and who to pay them to to be most tax-efficient.
• You could even give shares to your spouse or civil partner shortly before paying a dividend, provided you genuinely transfer ownership. It is advisable to leave as much time as possible between the gift and the subsequent dividend payment.
• If one partner does choose to transfer shares in the limited company to their spouse, then it is possible to pay dividends to both parties.
• Remember, dividends come from profit after corporation tax has been paid and they are free from NICs.  Dividends come with a 10% tax credit which satisifies the basic rate of tax on income, which means if you pay a £9,000 dividend, it's as if you are really paying £10,000 for tax purposes.
• Gross salary plus grossed up dividends which add up to no more than the Higher rate Tax (HRT) threshold (£42,475 for 2011/12 and 2012/13) will not attract any additional income tax.  Dividends in the HRT band will be taxed at 32.5%.  Since you have paid the 10% tax on dividends up to the HRT threshold, this means you must pay the additional 22.5% on the gross dividend in your self assessment.
• See here for more information on HMRC NIC thresholds.

Pension:

• Paying a pension contribution from your limited company into your personal pension is just another way of remunerating yourself as a contractor; together with salary and dividends.
• Employers pay gross pension contributions and the contribution should be tax deductable as an expense to your business (just like salary) as long as it is made wholly and exclusively for the benefit of the trade.
• HMRC clarified their position on this in February 2007.  See here for more details on this. Employer Pension contributions reduce your profit before tax, therefore you can save corporation tax at your highest rate (20% on the first £300,000 of profit).
• It is almost always better to pay gross, employer pension contributions rather than personal, net contributions if you are a contractor operating through a limited company.  This is becaue by doing so, you can save corporation tax (as well as pay no NIC or income tax on the payment) plus you are not eating into the income you take form your business in the form of salary and dividends, up to the higher rate tax threhold.  This means you can extract more monies from your business tax efficiently, which you can use for paying and overpaying your mortgage, saving into ISAs and lifestyle costs.
• Furthermore, dividends are NOT pensionable income, so you can only pay net personal contributions up to 100% of the level of your salary (up to the annual allowance), which for most contractors tends to be between £7,000 and £15,000.
• Paying gross, employer pension contributions means you can extract surplus monies form your business after using your basic rate tax band for dividends and you can pay up to the annual allowance (£50,000) regardless of your level of salary.  You can actually pay even more into a pension using the new Carry Forward rules (up to £200,000)
• Typically, we suggest that Contractors operating through a limited company, consider paying 10-15% of their turnover into a pension, on a monthly basis to benefit from pound cost averaging, topped up with affordable lump sums before the end of their company tax year.
• Making pension contributions for your partner: If the employed partner plays an active role in the business it is also possible to make pension contributions on their behalf from the business, which once again would benefit from tax relief. HMRC’s guidance on this area indicates that provided the total remuneration package – that is salary, plus benefits, plus pension contribution – is at a commercial rate, then it will attract a tax deduction against profits. If the employed partner does not wish to draw a high salary because of thel iability to national insurance contributions, they might wish to draw a combination of low salary plus a high pension contribution. Provided the total represents no more than a market rate salary for the role, this will attract a deduction in the business.

IR35 update:

• After a review of the personal service company (IR35) provisions, it appears that they are to remain in place for the foreseeable future, but with a commitment from the Government to improve the way the provisions are administered. It is worth repeating that if your business is affected by the IR35 rules, it is important to calculate how much salary to draw before 6 April 2012 to avoid being taxed on a ‘deemed payment’.

Employee Benefit Trusts (EBTs):

• The Government is committed to preventing the avoidance of Income Tax and NICs through so-called disguised remuneration arrangements, whose aim, in HMRC’s view, is to provide directors and employees with employment income without a corresponding PAYE/NIC liability.
• Legislation introduced in Finance Act 2011 covers the use of third parties such as Employee Benefit Trusts (EBT) to provide monies or benefits to employees.
• If you are an employee in receipt of monies from an EBT or other third party, or a company director considering options for tax efficient remuneration of your workforce, we would recommend that advice should be taken on these new rules as they are complex and wide enough to catch certain legitimate remuneration arrangements.
• In particular, individuals with loans from an EBT may be best advised to repay those loans before 6 April 2012, but these individuals should take advice specific to their particular circumstances from their accountant.

Capital Expenditure:

• Much capital expenditure can qualify for tax relief. Businesses currently get immediate tax relief on the first £100,000 a year spent on most  types of equipment and also many fixtures forming part of a building.
• This limit will go down to £25,000 for expenditure after 5 April 2012, so you might be able to maximise tax relief by bringing forward planned capital expenditure. Consider when to dispose of cars and equipment.
• Whether a disposal is before or after your accounting year end will affect your tax payments.

Check list:

• Have you considered the timing of dividends or bonuses to minimise additional rate tax this tax year and next?
• Have you used this year’s individual savings account (ISA) allowance before 6 April 2012?
• Could you transfer income to your partner to minimise higher and additional rate taxation this year and next year?
• If you are in business, have you timed your capital expenditure to maximise 100% tax relief?
• Have you used your annual capital gains tax exempt amount by making any available disposals before 6 April 2012?
• Have you used your annual inheritance tax allowances?
• Are you investing enough into your pension to be able to retire earlier?
• Can you utilise the merits of "Carry Forward" to pay more than the annual allowance and save lots of tax?

If you would like to make a last minute investment into your ISA, Personal Pension, or you would like to speak to us about saving on Inheritance Tax or Capital Gains Tax, please contact us as soon as possible, ideally before 23rd March on: Tel: 01582 720511 or email: This e-mail address is being protected from spambots. You need JavaScript enabled to view it or contact your Wealth Matters adviser directly.

You can download a Simple Guide to End of Year Tax Planning and a Simple Guide to ISAs from our website by clicking here.