UK: Budget Predictions: Top Tips

Last Updated: 23 March 2011
Article by Richard Mannion and Tim Lyford

Changes in the taxation of Principal Private Residences and a potential merger of National Insurance with PAYE could be mooted in the upcoming March Budget.

"We are likely to see a flurry of consultations announced on Budget day covering a raft of topics which could lead to root and branch change in the taxation of this country. The Budget will set the ball rolling and the pace could be fast and far-reaching," said Richard Mannion, national tax director at Smith & Williamson the accountancy and financial services group.

He continued: "The Office of Tax Simplification (OTS) has been reviewing the tax system and has now published its detailed report ahead of the Budget. Specifically, it has looked at 155 tax reliefs and recommended that some of these should be scrapped, including Millennium gift aid, luncheon vouchers, miners' free coal and the exemption for interest on National Savings Bank Ordinary Accounts (which no longer exist)."

"The OTS recommended that a number of reliefs should be looked at afresh, such as the CGT relief for private residences, and they also recommended a full scale review of inheritance tax (IHT) rather than tinkering with the existing reliefs. I therefore expect that the 23rd March will mean the start of consultations on a number of topics with a view to changing the legislation in 2012."

Tim Lyford, head of Corporate Tax at Smith & Williamson, said: "The Chancellor is promising a Budget for growth and I believe that low rates of standard tax – be they corporation tax, income tax and so on – provide the best means to provide stimulus, rather than new complicated reliefs. Constant tinkering with the tax code distorts behaviour at the margins and leads to unexpected and often unwanted, consequences."

Below, Smith & Williamson sets out the government's most likely targets:

Principal private residence and capital gains tax: tightening the rules with potential reduction from three to two years for 'deemed' main residence

Once a property has been used as an individual's main residence the last three years of ownership will always be exempt from CGT no matter what happens.

This rule was originally introduced to make it easier for people to take up work in a different part of the country and give them time to sell the old home. However, the tax break has, arguably, been financially helpful to many people with a second home which was not the government's intention.

"Despite changes in the labour market, this tax break has remained in place. And given the 'noise' about MPs 'flipping' properties, we could see a general tightening of the rules with the 'deemed main residence' period being cut from, say, three to two years. However it is very unlikely that any changes will be introduced for 2011/12. It is more likely that we will see a consultation process on proposals for streamlining the relief during the summer with a view to bringing in any changes next year," said Richard.

Bring 'non-resident' property owners into the CGT net: change rules so that non-resident investors who sell UK property pay tax on the gain

There are thousands of 'non-resident' individuals or entities that own property in the UK, sometimes via a corporate structure.  When these properties are sold, it is often the case that the owner does not pay any tax on the rise in value.  

Tim Lyford said: "It would be a relatively easy decision to bring these owners within the scope of CGT, particularly as generally they won't be voters, by extending CGT to cover UK real estate. It's worth noting that if British people own property in France, for example, they are liable to pay a local tax on the gain when they sell and in addition they may be liable to pay an annual wealth tax.

Small business taxes: general simplification so that dividends, bonuses and regular income are taxed in the same way

The OTS has issued its report on the taxation of small business and this will no doubt lead on to a consultation process on its recommendations. It was asked in particular to look at whether the dreaded IR35 tax could be scrapped, but it is clear that this is not a simple matter. Much depends on whether the Government is prepared to go for the major simplification of merging NIC and income tax referred to above.

"If investment income were taxed at the same rate as earned income, this would immediately remove many of the problems associated with the taxation of smaller businesses. Such a move would enable dividends and PAYE income to be taxed at the same rate so businesses would be dissuaded from incorporating for tax reasons. It would create a level tax playing field for partnerships, corporates and sole traders – which is long overdue," explained Richard.

In the meantime the OTS has offered three different options for making life easier for freelancers and others who are affected by IR35 – suspend the tax, improve the way it is handled by HMRC or introduce a new test for deciding who is covered. George Osborne is expected to announce his decision on which of those suggestions he prefers on Budget day.

Entrepreneurs' relief: the rules are widely misunderstood so many individuals miss out. Reform urgently required.

While these rules are intended to support and encourage entrepreneurs, the rules are very tightly drawn and many individuals who may have spent years building up a business can find they miss out when they sell.  Broadly, to qualify for the 10% rate of CGT on sale of company shares (rather than paying 28% CGT), individuals must own 5% of the total shares and have been an employee or office holder (director, company secretary or similar) for the year prior to sale. The OTS report highlights the problems that the 5% shareholding requirement produces and I am hopeful that a proper review of entrepreneurs' relief will be announced.

Merger of Income Tax and National Insurance: a potential tax revolution

The highly respected Mirrlees' Report, issued last year, suggested bringing these two taxes together as it would simplify personal taxation and make it more transparent.

"Given that NICs are in effect another tax, it makes sense to lump it with income tax to create one combined tax. However, this would translate as a basic rate of income tax of around 28% which could give the government some difficult headlines," said Richard.

He continued: "The OTS has agreed that government needs to consider a merger of these two taxes – which would be a revolution in tax terms - but it remains to be seen whether ministers have the appetite for such a major reform. If they decide not to take this idea forward then it is likely that we will see consideration of a number of practical measures to bring the NIC code closer to the income tax code and to improve HMRC's administration of NIC payments.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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