Income Tax and Cash Flow

Question 1

Actions to reduce income tax

Answer 1

Marriage Allowance £1,190 saves £238
Transfer savings to lower tax payer
Transfer Equity/UT if above Divi Allow
Transfer savings for PSA use
Use of CGT allowance rather than IT

Question 2

Detail and justify how the purchase of unit trusts with some of the proceeds of the sale of the business could provide a tax efficient income for the couple in retirement.

Answer 2

• Encashment from UT each tax year will utilises CGT annual exemption to provide tax-free ‘income’.
• Existing losses can be bought forward increasing amount encashed with no CGT.
• Spouse gift some of sale proceeds to spouse using inter spousal exemption allows them to hold the UT in joint names and use both CGT annual exemptions.
• UTF to ISAs utilise their ISA future allowances - tax free income.
• £2,000 0% div allow - equity UT makes use and excess taxed at 7.5% (likely to be BRT in retirement).
• PSA - corporate bond unit trusts makes use. likely £1,000 in tax year after co sold.

Question 3

State six factors that should be taken into account when carrying out a projected cash flow analysis

Answer 3

• Income/ expenditure requirements.
• Any future capital expenditure/future gifts planned.
• Any other expected inheritances/downsizing.
• Family history of longevity/health.
• Importance of IHT planning/utilising other inv. before pension/generational planning from pension.
• Assumptions to be used, e.g. inflation, inv. growth, ongoing charges.

Question 4

Identify 7 events that should be discussed when carrying out a stress test of their cash flow analysis.

Answer 4

1. Sudden or permanent loss of assets, e.g. stock market crash.
2. Future investment returns lower than expected.
3. Income requirements greater than expected.
4. Large capital withdrawal.
5. Living longer than expected/fund insufficient to support income for lifetime.
6. Inflation greater than expected.
7. Change in personal circumstances, e.g. divorce, death of one of them.
8. Need for long term care

Question 5

Marriage Allowance

Answer 5

1. They are married
2. One is a BRT payer and the other is a non tax payer.
3. The election can be made retrospectively/does not need to be made at the start of the tax year.
4. £1,190 x 20% = £238 reduction in Income Tax awarded as a tax reducer/via an adjustment to his tax code.
5. NRT has reduced personal allowance for 2018/19 meaning that income exceeds £10,665 - will have to pay Income Tax.
6. Cannot amend the election until the start of the new tax-year.

Question 6

Encash Inv. Bond or UT

Outline the factors that you would take into account when recommending whether the funds required should be taken from the unit trust portfolio or by withdrawing funds from the investment bond

Answer 6

Risk / reward

1. His capacity for loss is low.
2. The unit trusts appear to be performing better than the Inv. bond but are more volatile and are likely to be subject to market timing risk.
3. The Inv. bond is likely to be more in line with his ATR.

Income

1. The Inv. bond only has three years until the full capital amount has been withdrawn.
2. However, the income from the investment bond is certain.
3. The UT has no end date for income, but the income could increase or reduce.

Tax

1. The income from the UT will be tax-free as it is within his divi. allowance.
2. The gain on the UT is within his annual CGT exemption.
3. £** can be taken from the Inv. bond without an immediately liability to IT and the gain on the Inv. bond will not push him into the HRT bracket.

Question 7

LPA - where can only be used where mental capacity lost.

Answer 7

1. Set up the Financial Decisions LPA so it only becomes active once capacity is lost, thereby ensuring that attorney cannot make either financial or health decisions until lost capacity.
2. The Mental Capacity Act 2005 recognises that mental capacity can come and go.
3. So, when exercising powers under the LPA, attorney is required to let client make decisions and help them to make those decisions unless it can be shown they are unable to do so.
4. Attorney must recognise that just because client makes a decision considers unwise or strange, this does not mean they are mentally incapable of making a decision.
5. Client can include end of life instructions within the H&C LPA.

Question 8

Outline the factors you would take into account in order for them to achieve their objective of providing tax-efficient income in retirement.

Answer 8

• Attitude to risk – will this change in retirement?
• inherited portfolio - in line with attitude to risk
• capacity for loss
• And this may not be producing the level of income required
• Planned capital expenditure
• Their willingness to change ownership of the investments for tax efficiency
• Husband tax rate now and in retirement.
• Loss of PA – any chance of reclaiming?
• Wife – tax rate now and in retirement?
• Available allowances – ISA/Dividend Allowance/Personal Savings Allowance/Starting rate band for Lizzie/CGT exemptions to generate tax free/tax efficient income
• Are current assets in income producing funds?
• Assets within ISAs produce tax free income
• VCT or EIS? tax-free efficiency comment and is this in line with ATR
• The level of required income, both now and in the future
• The options and level of benefits available via company pension schemes
• The age gap between retirement and their respective State Pension ages

Question 9

Bond Encashment - Segments vs across all -

Demonstrate, using calculations to support your answer, why to encash individual segments rather than take a withdrawal across all segments to release the funds required.

They plan to convert their garage for this purpose, with a one-off cost of £21,000. They have an on-shore investment bond with V & T Asset Management that is currently valued at £30,000. He invested £18,000 in February 2013, has taken no withdrawals, and the bond is split into 100 segments.

Existing income £125.95 pw + £38,000 pa

Answer 9

Encashing individual segments:

1. The value of each segment on encashment is £300 / £30,000 ÷ 100 = £300.
2. This means 70 segments will need to be encashed/ £21,000 ÷ £300 = 70 segments.
3. After deducting the original cost/ 70 x £180 per segment the chargeable gain is £8,400.
4. This is top sliced by five years.
5. The result is that the slice is within his remaining basic rate tax band and so no additional tax is payable.

Encashing across all segments:

1. The partial encashment of £21,000 is offset using the cumulative 5% allowance.
2. This is based on the original amount invested/ £18,000 x 5% = £900, multiplied by the part number of policy years/ 6 years (£900 x 6 = £5,400).
3. The chargeable gain is therefore £21,000 - £5,400 = £15,600.
4. As there is no top slicing relief available, there is tax payable, with the excess over his basic rate tax band being taxed at 20%.