Tax planning is all about legally paying less tax than you might otherwise need to, by, first, doing things that HMRC encourages by offering tax relief, and, secondly, by avoiding actions that attract a large fee.
Tax efficiency will help your business save money when it’s in a pinch, help it grow and flourish, or allow you to take more money home for yourself and your family.
Every year, there’s always something in tax law that changes, usually announced in the Chancellor’s Budget. Staying on top of the rules will help you identify the most important ways to be tax efficient, especially after the COVID-19 pandemic.
Read on to learn what tax planning means in 2021.
Allowable expenses
If you’re self-employed, your business will rack up a number of running costs throughout the year, some of which you’ll be able to deduct from your profits as allowable expenses.
By deducting from your profits the costs of things that you would have paid for anyway for business purposes, such as office supplies and travel expenses, you end up paying less in tax.
To count as an allowable expense, the purchase must have been made wholly and exclusively for business purposes. That means travel expenses are only allowable expenses in certain circumstances, such as business trips.
There are also allowances for those who don’t travel to work. With more people than ever working from home at some point over the past year than before the pandemic – 46.6% of the UK compared to 26.7% – more people than ever also stand to benefit from working from home expenses.
You can do this by deducting a flat rate from your tax bill if you work for 25 hours or more a month from home, or by working out a reasonable estimate of the cost of running your home office, and deduct that amount instead.
Your pension and inheritance
We all know why a pension is important for later life, but surprisingly, only 14% of self-employed workers paid into a pension in 2018/19 according to the Department for Work and Pensions.
But by not saving into one, they not only miss out on building a safety blanket for retirement, but also lose out on their share of £1 billion of free tax relief a year.
As a reminder, when you contribute to a pension, you get a tax-free top-up at a rate of 20%, 40% or 45% depending on which income tax band you fall into.
So, every £800 paid in by a basic-rate taxpayer, for instance, will automatically turn into £1,000.
By failing to plan, people are also losing out on the full value of estates passed down to them by loved ones who have passed away.
For instance, taxpayers have had to cough up £624 million in inheritance tax over the past five years for gifts they thought would have been tax-free. Unfortunately, they weren’t because they didn’t follow the rules to the letter.
To be tax-free, a gift must not be used by the person who issues it as a benefit in kind. That means they cannot, for example, continue living in a property they have gifted without paying rent at market rates.
Making tax digital
A must for businesses and their tax planning is understanding the Making Tax Digital (MTD) scheme.
It already applies to most VAT-registered businesses and the rest will be scooped up from April 2022.
After that, MTD for income tax self assessment will arrive on 6 April 2023, applying to self-employed individuals and landlords with an annual income of over £10,000.
According to HMRC, the new system, which sees businesses having to report accounting data in real time, digitally, will make it “easier for individuals and businesses to get their tax right and keep on top of their affairs”.
While businesses will have to prepare for expenses on new software, IT upgrades and accountant fees, HMRC hopes MTD will save taxpayers money by cutting the likelihood of mistakes and the time it takes to submit returns.
In practice, it means that your personal accounts will need to be complete, accurate and in good order at all times, and any allowances and reliefs you claim on your tax return will need to be supported by those digital records.
Get in touch with us to talk about tax planning.