Section One: Income tax and capital gains tax: a refresher

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1 Section One: Income tax and capital gains tax: a refresher Tax tables will be given to you in the RO2 exam and are also available for download from the CII website. It is worth familiarising yourself with the income tax and capital gains tax information on the tables before the exam itself. The figures below all relate to the 2013/14 tax year 1.1 Allowances The standard personal allowance (representing tax free income for the tax year) is 9,440 for those born after 5 April The allowance is 10,500 for those born between 6 April 1938 and 5 April 1948 and 10,660 for those born before 6 April There are two situations where the standard personal allowances may be reduced: Income above 100,000 If an individual s adjusted net income exceeds 100,000 in the tax year then the personal allowance is reduced by 1 for every 2 of the excess over 100,000. So, if someone s net adjusted income is 110,000 then the personal allowance will be 4,440 ( 9,440-5,000). There will therefore be no personal allowance for anyone with adjusted annual net income above 118,880. Age allowance reductions There is an income limit for age-related allowances of 26,100. If someone has a higher allowance as a result of being born before 6 April 1948, the allowance will reduce by 1 for every 2 of adjusted net income above the 26,100 limit. It will not reduce below 9,440 unless adjusted net income exceeds 100, Taxable income This is after deduction of a personal allowance. So, if someone has an income of 40,000 the taxable income will be 30,560.

2 Care: If an exam question gives you someone s taxable income, don t deduct the personal allowance it s already been taken off. If the income in the question doesn t include the word taxable then you should apply the personal allowance. 1.3 Tax thresholds Ignoring, for the moment, the starting rate for savings (see below), there are normally three rates of income tax: basic, higher and additional. The threshold for basic rate tax is taxable income of 32,010. On taxable income above this figure, higher rate tax is payable. For example, if an individual has earned income of 50,000, their taxable income will be 40,560 ( 50,000-9,440). 32,010 will be taxed at basic rate (20%) and the remaining 8,550 ( 40, ) will be taxed at 40%. Care: If an exam question tells you that someone s income is, say, 40,000 then it s very easy to mistake them for a higher rate taxpayer. They are of course, a basic rate taxpayer as the taxable income of 30,560 ( 40,000-9,440) is below the 32,010 threshold. If someone has adjusted net income in excess of 150,000 then additional rate tax is payable on the excess. Of course, since the income is above 118,880, there will be no personal allowance. 1.4 Main tax rates An individual s income is assessed for tax in a certain order: Non-savings income (earned income, pension income, rental income); then Savings income; then Dividends Only then is the taxation of investment bonds and capital gains tax calculated. Ignoring again, for the moment, the starting rate for savings, the rates of tax are: Non-Savings/Savings: basic 20%; higher 40%; additional 45% Dividends: basic 10%; higher 32.5%; additional 37.5% 1.5 Starting rate for savings There is a starting rate band of 10% (applying to savings income only) for 2,790 of taxable income. However, this is reduced by the amount of any taxable non-savings income.

3 If someone has non-savings income of exactly 9,440, then there is no taxable non-savings income (as the income is covered by the personal allowance). If they also have savings income, then the first 2,790 will be taxed at 10%. Anything over 2,790 will be taxed at 20%. If an individual s non savings income is 10,440, then the taxable non-savings income is 1,000 ( 10,440-9,440) and therefore, if they have any savings income, only 1,790 of it will be taxed at 10%. If someone has non-savings income of 12,230 ( 12,230-9,440 = taxable income 2,790) or more, then no starting rate band can be applied to savings income. What type of question may this be in an RO2 exam? A question may give someone who has a relatively low level of non-savings income (e.g. 9,500 or 10,000) plus some savings income (e.g. 1,000) and then test your awareness that the correct rate of tax on the savings income should be 10%. 1.6 Calculation of higher rate or additional rate tax on interest Some investments (e.g. UK bank accounts or corporate bonds) pay net interest with 20% tax deducted at source. There is therefore no further liability for a basic rate taxpayer. However, a higher rate (40%) taxpayer will be liable for a further 20% and an additional rate (45%) taxpayer will be liable for a further 25% income tax. This is always calculated on the gross interest so you will need to take the net figure and gross it up by dividing by Calculation of higher rate or additional rate tax on dividends Dividends pay net with a 10% tax credit. There is therefore no further liability for a basic rate taxpayer. A non-taxpayer cannot reclaim any tax. However, a higher rate (32.5%) taxpayer will be liable for a further 22.5% and an additional rate (37.5%) taxpayer will be liable for a further 27.5% income tax. This is always calculated on the gross dividend so you will need to take the net figure and gross it up by dividing by Capital gains tax (CGT) For those investments which are not exempt, CGT may be payable on a gain on disposal of an asset.

4 An individual has an annual exemption of 10,900 (2013/14). If gains on non exempt assets exceed the exemption, then the excess is taxable. Where the total annual taxable income and gains do not exceed 32,010, then the rate of CGT is 18%. For any excess over 32,010, the rate of tax is 28%. 1.9 Section 1 questions Now try the following questions 1)! Hayley, who earns 170,000 in 2013/14 receives a net dividend of 2,200.! How much further tax will she be liable for on the dividend payment?! (a) ! (b) ! (c) ! (d) )! Gavin, who has taxable income of 38,000 in 2013/14, receives annual! interest of 1,400 into his bank account. How much further tax, if any, will he! be liable for on the interest?! (a) Nil! (b) ! (c) ! (d) ) Maeve has income of 60,000 in 2013/14 whilst her husband Robert earns 30,000 per annum. Maeve purchased some shares, which pay her a net income of 1,440 in this tax year. If the shares had instead been purchased in Robert s name, how much overall annual income tax, if any, would the couple have saved?! (a) Nil! (b) ! (c) ! (d) ) Michael, aged 68, has gross pension income of 22,000 and receives gross gilt interest of 4,900 per annum. What is his personal allowance in 2013/14? (a) 9,440 (b) 10,100 (c) 10,500 (d) 10,660

5 5)! Maha, age 26, has annual earned income of 9,600. She also receives gross! income in 2013/14 of 600 from NS&I income bonds. How much tax, if any,! will she be liable for on the NS&I income bonds? (a) Nil (b) (c) (d)