Limited window for using your 2020/21 tax allowances

Individuals are entitled to a number of allowances each year. However, many of them are lost if they are not used in the tax year to which they relate – it is not possible to carry most unused allowances forward. The 2020/21 tax year comes to an end on 5 April 2021. With the end of the tax year approaching, now is the time to review your allowances and consider whether there is anything that can be done to prevent those allowances being wasted. Remember, any Covid grants that you have received in 2020/21 are taxable and will need to be taken into account when assessing your income.

Personal allowance

The personal allowance for 2020/21 is set at £12,500. It is reduced by £1 for every £2 by which adjusted net income exceeds £100,000. This means that individuals whose income exceeds £125,000 will not receive a personal allowance for 2020/21. Where possible, steps can be taken to preserve the personal allowance, such as making pension contributions or charitable donations to take income to below the abatement limit. Consideration can also be given to deferring income to 2021/22 and to transferring income or income-earning assets to a spouse or civil partner to preserve the allowance.

Where the personal allowance has not been fully utilised, consider whether it is possible to increase income for 2020/21. The impact of Covid-19 may mean that opportunities to do this are limited. However, if you have a family company, you may be able to pay a bonus or a dividend, for example, to mop up unused allowances.

If you, or your spouse or civil partner, are unable to use their full allowance for 2020/21, consider whether you can claim the marriage allowance. This allows one spouse or civil partner to transfer 10% of their personal allowance – equivalent to £1,250 for 2020/21 – to their partner, as long as the recipient does not pay tax at the higher or additional rate. Where the marriage allowance is claimed, the partner making the transfer has a reduced allowance of £11,250 for this year, whereas the recipient has a higher personal allowance of £13,750. Claiming the marriage allowance will save a couple £250 in tax for 2020/21.

The married couple’s allowance is set at £9,075 for 2020/21. It is available where at least one spouse or civil partner was born before 6 April 1935. However, the allowance is reduced by £1 for every £2 of income over £30,200 until the allowance is reduced to the minimum amount of £3,510. The married couple’s allowance reduces the tax payable by 10% of the allowance, meaning it is worth between £351 and £908 for 2020/21. If one partner’s income exceeds the income limit, couples should look to equalise income where possible to minimise the reduction in the allowance.

Contact your professional adviser to discuss what action you can take to ensure that your personal allowances for 2020/21 are not wasted.

Dividend allowance

All taxpayers, regardless of the highest rate at which they pay tax, are entitled to the dividend allowance, set at £2,000 for 2020/21. The dividend allowance is actually a nil rate band; dividends falling within the band are taxed at a zero rate. Dividends in excess of the allowance are taxed at the dividend tax rates as the top slice of income.

The dividend allowance is a handy tax planning tool in a family company scenario. Dividends can be paid to family members to utilise any unused dividend allowances (and also any unused personal allowances). This is a useful way to extract profits from the company in a tax efficient manner. However, remember that dividends can only be paid out of retained profits, so you must have sufficient retained profits to cover the dividends that you wish to pay out. Care should be taken this year where profits may have taken a hit as a result of the Covid-19 pandemic. Also, dividends must be paid in proportion to shareholdings; however, having an ‘alphabet’ share structure overcomes this limitation providing the flexibility to tailor dividend payments depending on the individual’s circumstances.

Discuss your dividend strategy with your professional adviser to ensure dividend allowances for 2020/21 are not wasted.

Savings allowance

A separate allowance is available for savings. However the savings allowance is available to basic and higher rate taxpayers only – there is no savings allowance for additional rate taxpayers. The allowance is set at £1,000 for basic rate taxpayers and at £500 for higher rate taxpayers. It is available in addition to the savings zero rate. Interest earned on tax-free savings, such as ISAs, does not count towards the limit.

Couples should look at how their savings are held to ensure that allowances are not wasted. For example, if one partner is an additional rate taxpayer and the other is a basic rate taxpayer, ensuring any savings income accrues the partner paying tax at the basic rate will ensure that the first £1,000 is tax-free rather than taxable at the additional rate.

Capital gains tax annual exempt amount

For capital gains tax purposes, individuals are allowed to realise net gains (after deducting any capital losses) of £12,300 for 2020/21 tax-free. Where capital disposals are on the cards, if the annual exempt amount remains available, consider making the disposal prior to 6 April 2021 to utilise the 2020/21 annual exempt amount, paving the way to realise gains free of capital gains tax in 2021/22.

Spouses and civil partners can take advantage of the no gain/no loss rules to transfer assets between themselves prior to sale to maximise available annual exempt amounts.

The annual exempt amount is lost if it is not used in the tax year – it cannot be carried forward.

Contact your professional adviser to discuss how to minimise your capital gains tax bill by making best use of your annual exempt amount.

Pension annual allowance

Individuals are able to make tax-relieved pension contributions up to the higher of 100% of earnings and £3,600, subject to having sufficient annual allowance available. The annual allowance is set at £40,000 for 2020/21.

Where the allowance is not fully utilised, it can be carried forward for up to three years. Thus, for 2020/21, the available annual allowance is that for 2020/21 plus any unused allowances for 2017/18, 2018/19 and 2019/20. However, the current year’s allowance must be used fully before using up brought forward allowances, with earlier years being used first. Any brought forward allowances from 2017/18 will be lost if not used by 5 April 2021.

The pension annual allowance is reduced where both threshold income (broadly income excluding pension contributions) is more than £200,000 and adjusted net income (broadly income including pension contributions) is more than £240,000. The allowance is reduced by £1 for every £2 by which adjusted net income exceeds £240,000 until the minimum annual allowance of £4,000 is reached. This will be the case where adjusted net income is more than £312,000 (and threshold income is more than £200,000).

A separate allowance – the money purchase annual allowance (MPAA) – is available where a money purchase pension pot has been flexibly accessed after age 55. For 2020/21, it is set at £4,000.

Speak to your adviser about whether it is worthwhile making pension contributions prior to 6 April 2021.

Inheritance tax annual gift allowance

All individuals have an annual gift allowance of £3,000 a year for inheritance tax purposes, which allows them to make gifts of up to £3,000 a year without them being added to the value of their estate for inheritance tax purposes. The allowance can be carried forward to the following tax year if it has not been used. Thus, if you have not yet used your allowance for 2019/20 or for 2020/21 you can make £6,000 of gifts IHT-free by 5 April 2021.