Three ways to reduce your personal tax liability as a business owner

With tax rates at a post-war high, a leading accountant shares three different ways to help business owners reduce their personal tax liabilities.

Thanks to Tom Walker, Partner at Wellers – personal tax planning accountants – for this useful guide

The UK is entering a period of significantly high tax rates. In fact, tax rates haven’t been this high since the 1940s.

However, due to the nature of the UK tax code being so long (it’s currently more words than the average person will read in their lifetime) there are natural loopholes that can be exploited to minimise the amount of tax payable. The key is effective financial planning to reduce your liability.

Methods of this type of financial planning can be compared to football clubs and how they continue to make big money signings whilst avoiding Financial Fair Play (FFP) penalties. For example, in the most recent transfer window, English Premier League clubs spent over £2bn. Clubs like Chelsea made 12 new signings, most notably splashing £115m on Ecuador midfielder Moisés Caicedo but are still able to avoid FFP penalties. This is because they work with highly skilled accountants who help balance their books in a way that is advantageous to the club.

How financial planning can help you

There are a few ways you can reduce your tax liability.

1. Investing

Two schemes have been introduced by the UK government to encourage investment in British businesses, the Enterprise Investment Scheme (EIS) and the Seed Enterprise Investment Scheme (SEIS).

The SEIS only applies to start-up businesses that are under two years old. This is to encourage more investment in young businesses by reducing the risk for investors. By investing through SEIS, investors can fund up to £100,000 per tax year and the Government will provide upfront income relief of up to 50%.

The EIS works similarly but for larger businesses. In this scenario, up to £1m can be invested in any given tax year and the investor will receive up to 30% tax relief from the Government.

These schemes provide benefits for the individual investor and the business. Investors can reduce the risk of investing their money in other businesses whilst also reducing their tax bill. On the other hand, businesses benefit from investment without having to service bank loans whilst also being able to learn from the investor’s knowledge, skills, and network of contacts that could help grow their business.

Things to note:

Whether you’re a seasoned entrepreneur, or new to the world of investing, the EIS and SEIS offer several benefits:

• You can enjoy a stake in a company with ambitious growth plans
• You won’t pay Capital Gains Tax (CGT) when you sell your shares
• You will benefit from 50% CGT relief on any gains from an investment in a non-SEIS company (if the gains are re-invested in a SEIS-eligible company)
• Deferral relief means you can reorganise and defer existing CGT liabilities to future years
• You can benefit from up to 50% Income Tax Relief (under the SEIS)
• If a business you invest in doesn’t do well and you sell your shares at a loss, you can claim SEIS loss relief
• Your beneficiaries won’t pay Inheritance Tax on any SEIS shares so long as you held them for more than two years
• You have the potential opportunity to earn multiple returns with a reduced base cost and no payable tax

2. Investing in Venture Capital Trusts (VCTs)

VCTs are specialist investments that offer tax breaks to encourage investment in small, but high-risk organisations.

The benefits:

• Income tax relief is 30% of the amount invested as long as you have held the VCT for five years
• VCT shares are CGT exempt
• Dividends on VCT shares are tax-free, which negates the £1,000 dividend allowance

3. Avoiding the effective 60% income tax rate

There are three rates of tax in the UK. Basic rate (20%), higher rate (40%), and additional rate (45%), with a tax-free personal allowance of £12,570. However, this personal allowance reduces by £1 for every £2 that your income exceeds £100,000. This is known as ‘adjusted net income’ and means that if your earnings are greater than £125,140 you won’t receive a personal allowance. This effectively means if your income is in the £100,000 – £125,140 bracket you are paying 60% tax.

One way you can avoid this is by increasing your pension contributions. As the Government encourages saving for retirement, it offers tax relief on pension contributions which you can use to ensure your income doesn’t breach £100,000.

Conclusions

These are just three ways that you can reduce your personal tax liability. There are several out there that can be highly effective at reducing the amount of tax you will pay in a tax year.

However, the world of tax relief is a complicated one and it is easy to get it wrong. And getting it wrong can land you in some serious hot water with HMRC. Not only can it result in a hefty fine, but it could lead to a full tax investigation and potentially even criminal charges.

To avoid this, always seek professional advice. A professional can advise you on the best ways to reduce your tax bill and will always know which tactics can be used alongside each other to make even further savings.

Find out more about personal tax planning with Wellers.