Budget 2016: What looms for contractor finances
Contractors and their personal finances have taken a battering in Budgets of late, writes Sat Singh, the chief executive of IFAs Contractor Money.
April’s withdrawal of dividend tax credits; its introduction of new restrictions on expenses and a stamp duty levy for those buying a second property or buy-to-let won’t ease this bruising. Interestingly, these assaults on the contractors’ lot are all products of George Osborne’s recent pronouncements, so understandably contract workers are hoping to receive as little attention from him as possible on March 16th.
Fortunately, the rumours in the run-up to Autumn Statement 2015 of an indiscriminate contractor cull (whereby they would be forced to join the payroll after a month or two), appear to have been just that; rumours. However, contractors may still be in for a bumpy ride when the chancellor gets to his feet for Budget 2016 a week today.
Buy-to-let: taxed but not axed
Currently landlords receive tax relief on their buy-to-let mortgage payments as well as a generous 10% annual Wear and Tear allowance. From April this year, the government will withdraw the wear and tear allowance, introduce a 3% stamp duty levy on the purchase of buy-to-lets and finalise its plans for a phased, although partial, withdrawal of buy-to-let mortgage interest relief, which will see contractors buy-to-let tax bills increase significantly from 2017.
Drastic as these reforms may be, and in spite of the mainstream press heralding this as the ‘end of buy-to-let,’ there has been little shift in the number of enquiries and applications for investment properties. We’ve seen contractors show little concern over the prospect of paying an extra 3% stamp duty from next month.
Many contractors we advise and who own buy-to-lets continue to see annual returns of around 11% (taking into account rental income and capital growth) so a 3% increase in purchasing costs and a reduction in tax relief is more of an annoyance, rather than an outright deterrent. This is largely as we predicted. And company buy-to-lets meanwhile, have become the order of the day, with many looking to maximise that efficiency in what may become a personally punitive environment from 2017.
First-time buyers may get a boost on the ladder
Contractor Money is expecting Mr Osborne to further “level the playing field” between the PRS and first-time buyers. However, we believe the focus will shift from prudential taxation to incentivised home ownership, in a bid to tackle the entrenched demand for rental properties fuelled by new affordability rules and, for many, unobtainable high house prices.
The introduction of further tax breaks and - or - an extension of existing government funded schemes, such as Help to Buy and Shared Ownership, are most likely on Wednesday. But the chancellor has a habit of bringing back-office, black magic policies to the fore and we aren’t ruling out a more drastic geographic restrictions preventing purchases of second homes and buy-to-let within certain postcodes.
No country for old men
Pensions have been firmly in the spotlight in the run-up to this Budget. Reforms to the pension system have been muted throughout the mainstream press but are unlikely to be introduced, and possibly not even announced, on March 16th.
This is because the canny chancellor knows too well how important and fickle the electorate can be and with the Brexit campaigns in full swing and a potential leadership challenge ahead, Mr Osborne is likely to play it safe on pensions for now. However, a process of consultation could be announced to consider the various pension reform proposals, such as:
1. The ‘Quick Fix’ - In recent Budgets the chancellor has tinkered with the tax relief on pensions, cutting the annual allowance to its current £40,000 and the lifetime allowance, the aggregate amount a saver can claim tax relief on, to £1million.
A further reduction to both the annual and lifetime allowance are the most likely interventions the chancellor will make in his Budget statement, given the simplicity and speed at which this could be changed to quell the growing bill for pension tax relief.
While undesirable, a reduction in the annual allowance to £35,000 or £25,000 and the lifetime allowance to £750,000 may actually be the most palatable outcome on Wednesday.
2. Flat Rate Relief - The second most likely course for Mr Osborne is the introduction of a flat rate tax relief on pension contributions.
Under the current rules, contractors receive full tax relief at their highest marginal rate of income tax. This allows many contractors to effectively top-up their contributions with 40%, or higher rate tax, resulting in a £60 pension contribution being grossed up to £100.
The Treasury is considering a flat rate of 25% to 35% tax relief which would result in higher and additional rate tax payers receiving only partial relief on their pension contributions.
This would see the grossed up contribution for a higher rate tax payer drop to £80 or £92 respectively given the flat rates above.
3. Flat Rate Top-Up – A third option would be to introduce a flat rate scheme with an effective ‘top-up’ for pension savers on lower incomes, in a bid to engage lower earning savers to engage in retirement planning.
4. The Pension ISA (PISA) – The concept of an ISA-style wrapper for pensions has been muted previously but failed to gain traction and will do little to encourage those currently not saving for their retirement.
Under the proposed PISA, contributions into a pension would be made net of the contractor’s highest marginal rate of income, or dividend, tax but would be tax free when drawn down in retirement.
While this may result in more flexibility, it’s clear that this would give limited incentive for savers across the income spectrum to save for their retirement.
Whoever the chancellor pursues on Wednesday for fresh revenue, whether it is savers, investors or property owners – and unfortunately, contractors are often all three of these – Contractor Money will be assessing the implications for contractors’ personal finances exclusively for ContractorUK on March 17th.