Second Homes and Capital Gains Tax

The Bank of England - not my second home. Image via Wikipedia

It would seem that a huge amount of rubbish is being written about the widely trailed plans to restore the link between the rates applied to Capital Gains Tax (CGT) and Income Tax, in particular the apparent concerns of all those people - each of them apparently a core Conservative voter - who own second homes.

At the weekend, David Cameron is reported to have said that second home ownership was not "splendid" for the economy. Of course, in many areas there are concerns that second home owners are pricing out the locals who have to move far away - fishermen can no longer afford Fisherman's Cottage, and the local vicars can barely afford the new Rectory, let alone the Old Rectory which was sold off years ago.

But without going into the rights or wrongs of second home ownership, the idea that somehow these people will "suffer" if their GAIN on the sale of the property is taxed at the same rate of income is quite bizarre.  Property ownership in the UK has been, over the long term, a good one-way bet for many years.  There is no risk taking with this sort of "investment", which is, to coin a phrase, as safe as houses. Although frankly, the idea that a second home (as opposed to a buy-to-let investment) is in fact an "investment" is pretty odd.

On the other hand, it was the last Labour government (hiss, boo) which created the anomaly of taxing captial gains at a lower rate to income (whether earned or not) and did away with many of the distinctions between business and non-business assets - and dismantled the reliefs (taper and indexation) which rewarded those who held investments for the long term.  Instead the new 18% rate was available for any asset, no matter how long it had been held. This encouraged some people to arrange their affairs so that income became a capital gain (and taxed accordingly) or to invest for capital growth rather than a steady income return - which surely pushed up property prices.

So when George Osborne looks at the detail of the CGT realignment with Income Tax, it would be extremely sensible if taper relief and indexation allowances are restored, and that the exemptions, such as Entrepreneurs Relief and schemes such as the Enterprise Investment Scheme are maintained to encourage investment in real businesses. As CGT rates rise, these schemes will make investment in real businesses all the more attractive, which should be widely welcomed.

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The strange case of Hazel Blears and the HMRC

If only we had a word for "Schadenfreude" in the English language - we would be getting such great value out of it at the moment, which is more than you can say about our Members of Parliament and their fondness for claiming the maximum possible allowances for everything from plasma screens to drawbridge wax (OK, that may not be entirely factual).

But more significant than over or "mistakenly" claiming for the odd bit of dog food, is the tax implications of all of this - or more precisely the capital gains tax implications of desingating a house as your primary residence for tax purposes and your second home for expense purposes.

One of the offenders in this respect, Hazel Blears, has said she is paying the tax on the £45,000 profit she made on the sale of her "second home" and has been waving around a cheque made out to HMRC. Aside from the point that she is paying £13,332 on a reported profit of £45,000, which is about 29.6%, which is nice for her given that the higher rate on earned income is 40% - or 50% (or even 60% - see earlier post), I am not aware that HMRC accepts voluntary donations of tax.

Mrs Blears is apparently making the payment on a without prejudice basis. This is just as well, as if she admitted having fiddled her taxes, she would be in line for interest, penalties and possibly prosecution (although, frankly, unlikely where a taxpayer fesses up before the HMRC investigate....).

So what will HMRC do? Will they bank the cheque, say thanks a lot and no further questions? Or will they say if the tax is not due they have no jurisdiction to collect it? And what if they return it, will Mrs Blears donate the money to charity? If so, Shelter might be appropriate.


UPDATE: This post on Ben Brogan's blog appears to confirm my assumption that the HMRC can only take what is in fact due to it and a voluntary overpayment will (if not repaid) be set against future liability.

Top rate of income tax could be 60%, not 50%

OK bear with me here, but I think my maths is correct....

In the budget, the Chancellor has just announced that the top rate of tax for people earning over £150,000 per annum will rise to 50% for income over that amount. Cue headlines "Top rate of tax now 50%". BUT, personal allowances are being withdrawn from people who earn over £100,000, with a cut of £1 of allowance, for every £2 earned over £100,000. (see page 109 of this document).

In 2009/10 the basic personal allowance is £6,475 - so anyone earning over £112,950 will get no personal allowance and instead they will pay 40% tax on their earnings over (in 2008/09) £34,600. What I am not clear about is whether the ending of the personal allowance lowers the rate at which higher rate tax payers enter the higher band or whether it is at the same overall level - i.e. that they pay the basic rate for longer.

Assuming it is the former, then the previously tax free personal allowance will effectively be taxed at 40% as well (or at least at 20%).

So, if you earn £100,000 and your salary increases by £2000, you will pay £800 on the increase, plus lose £1000 of personal allowance, so will be paying an additional £400 in income tax - total tax burden on the additional £2000 = £1200 or 60%.

Even if the loss of the personal allowance means you are paying only 20% on that element, the burden will be £1000 (£800 plus £200) on a £2000 increase - 50%.

As ever, the budget is rife with spin and misdirection, but it should be crystal clear that the marginal rate of tax is rising for people earning over £100k, and not just at £150k.

Non-doms: Gordo's got it wrong

I have been wrestling with the issue of the much trailed non-dom levy. On the one hand I am all in favour of people paying their fair share of tax, but on the other I am dismayed that it is being done in such a cack handed manner which is likely to damage the economy. Whilst I have little sympathy with US businessmen who are to be taxed on their worldwide income or pay £30k since a UK citizen working in the US would not even get the benefit of that option, I can see that the arbitrary change is a bit tough on people who have managed their affairs in the expectation that the tax system would remain stable.

However, rather than imposing the flat, reggressive £30k levy, there are a couple of sensible reforms that the Chancellor could make in a few weeks which would not be such an obvious cause celebre amongst the ex pat business community.

1. Change the rules so that any income derived from employment based in or mainly undertaken in the UK is subject to UK taxation, regardless of where the payment for that employment is made. Currently, non-dom workers can be paid through off-shore companies for work done in the UK. This would be similar to the crackdown on consultancy companies, which were used as tax efficient vehicles.
2. Levy a small percentage of the value of any real property held by an offshore company. Lots of properties (including the entire HMRC estate, via Mapeley STEPS) are held in offshore properties to be tax "efficient" and where properties are held in an SPV, this SPV can be sold avoiding the need to bring income into the UK or pay UK stamp duty as the only transaction is the sale of the SPV, in the BVI or whereever it is located.

There is no reason why foreigners working and living in the UK should be getting a free ride on the work done in the UK or property owned here. But the compromise (to keep a competitive advantage) is that we do not seek to tax money earnt and kept offshore.

Death duties - another idea

The raising of the threshold for the payment of inheritance tax is very welcome but I would advocate a further reform which would make the system fairer and, in my view, cleverer.

At the moment, if a person's estate is above the inheritance tax threshold, gifts given during that person's lifetime can be counted as part of his estate and taxed accordingly if he dies within 7 years.

A 7 year window concentrates the mind - even a fit 70 year old can see the benefit of starting to plan to reduce inheritance tax. If this window was reduced to 5, 3 or even 1 year, there would be less of an incentive for people to plan to mitigate the inheritance tax payable by their estates. Furthermore, if the window were reduced to one year, this would be a financial bonus for many of those who have terminal illnesses - which often strike before old age, frequently at a time when a person's heirs are still financially dependant on that person - although admittedly the exemption for gifts to a spouse are consistent with this goal, not everyone has a spouse. In fact, I would extend the spousal exemption to children under 18.

However, by reducing the window in which gifts are at risk would be a popular and fair move and would allow money which is passed on to be spent rather than saved (to avoid the risk of a large tax bill) which is also positive for the economy.

It is time to get creative about tax, to make it simpler and fairer.

Osborne does well

When I finally made it out of bed just after 8am this morning, I was just in time to hear George Osborne on the Today programme announce the most original and intelligent new policy of any political party in decades. A flat levy of £25,000 on non-domiciled tax payers is a creative way of raising money from a completely new source without the tax payers seriously resenting (or in many cases even being effected by) the new tax. Anyone earning more than about £70,000 per year offshore will be paying a lower effective rate of tax on this income than if they brought the money onshore and in many cases (e.g. US citizens) will be able to off-set the £25,000 from their other tax bills under double tax treaties.

It is very unlikely that there are many non-domiciled tax payers who are low earners - a nurse from overseas is hardly likely to have a private income arising in her home country which makes it worth claiming non-dom status, or whether she would have registered as such - she would pay tax on her UK income via PAYE and that would be that. This means that very few of the non-dom tax payers included in the statistics will not contribute more under this proposal.

The criticism that it would not raise "enough" money is a red herring - it will raise new money - that's the point.

On the other hand IHT will be abolished for the majority of people. The criticism that this is a re-distribution from the very rich to the quite rich and therefore irrelevant to the majority of people is again misplaced. The idea that policies should only be developed that help the poorest - or the majority - is foolish. For one thing, a government needs to look at all aspects of the tax system. Secondly, in an aspirational society, people look at the taxes which will effect them if they get rich. Historically, tax cuts for the rich have stimulated growth and lead to an increase in tax revenues. The Conservatives have always prospered when they have pandered to the aspirational nature of the British people. The policies announced today are creative and sensible and are, I hope, the first of several good ideas which will mean that the Conservative Party forms the next government.

Poll Tax Rubbish

If the success of the Thatcher years were fairly measured by the protests against her then the fact that the single biggest incident of civil protest in ten years was over a reform to local government finance must surely indicate that in 1990, things were pretty good for the average Brit. As I have always understood it, the objection to the Poll Tax was that it was unfairly regressive in that within each local authority everyone over 18 paid the same amount of tax regardless of income or other wealth. The Council Tax, which replaced it, is charged in relation to the value of the house against which it is levied, with discounts for people living alone and consequently is regarded as being completely fair, or at least not worth rioting over.

In the current climate of climate angst, green taxes are the sine qua non of contemporary politics. Local authorities have risen to the challenge by suggesting they should tax more heavily those households which produce more than a certain amount of waste each year. It is said that such a system would encourage people to use less packaging and recycle and compost more. Whether it is also designed to ensure that we finish what’s on our plate has not been revealed, nor, if it is, how this would gel with the government’s drive against obesity. But I digress.

With the exception of a few good people who grow all their own food and then compost what their own, or their dog’s, digestive system simply cannot accommodate, most of us generate a certain amount of rubbish mainly in the form of plastic, paper and glass packaging as well as the remains of last night’s takeaway. But there’s the rub: which households are producing the most sacks of rubbish? Is it (a) the single person living off takeaways and M&S meals for one; (b) the young couple who are never at home; or is it (c) the family with small children who never go out.

Speaking from personal experience, it is (c) by a rubbish strewn country mile. Yes, my family recycles, we would love to compost (but without a garden we have no intention of opening a branch of Dickens World in our own kitchen) and we have food delivered in environmentally friendly cardboard boxes. But we still generate an absolute ton of rubbish each week for the good bin persons of K&C to collect.

There are five of us living under one roof: three adults (including the au pair) and two babies. We would be heavily penalised by a rubbish tax, I am sure. The first irony and unfairness is that such a tax would effectively be per person - not even per adult, and would be no less regressive than the Poll Tax - even less so if there were no exemptions for students or the unemployed. Where are the rioters when you need them? Secondly, the demand for new houses - driven in no small part by desire of a large number of people to live alone - is a massive source of carbon emissions and pollution so much so that sole occupancy should really be penalised rather than rewarded. Unless, of course, you think the answer to global warming is for us all to stop breeding, in which maybe we should all live alone slowly going sterile whilst eating pizza and watching Vicar of Dibley repeats on UK Gold +1.

The best form of welfare is work

In my final year of university I took a course which covered the welfare state from 1943 to about 1954. Bit of a narrow subject for a history degree, but was quite fascinating. My main problem with it was that the reading lists were dominated by lefties who started from the position that the welfare state was the best thing since sliced bread - or possibly before sliced bread - I was never much good with dates.

I recall being more than a little confused by the assertion that one the biggest providers of welfare was "private business" -- meaning that people had jobs which provided them with money and sometimes fringe benefits such as health insurance. From one point of view, I can understand the argument, but I had to disagree with the concept of putting state support on a par with earned income.

New Labour's flagship "Welfare to Work" scheme has been missing in action, presumed dead for many years now, but it did recognise the simple truth that it is better for the economy to have people working than claiming benefit. The problem with the New Deal and "Welfare to Work" scheme in general is that they are always overly bureaucratic and costly for the employers to administer.

One defining feature of the British economy is the success of small business. A culture of enterprise and entrepreneurs has allowed Britain to generate jobs in new industries as old industries decline and fall. The boom in house prices has allowed the middle classes to unlock the wealth contained in the bricks and mortar of their properties and use that money to start endless small ventures. Those without the funds can turn to an increasingly efficient (if often ruthless) banking sector or turn up on Dragons' Den to beg for the cash from those with an eye for a good opportunity.

For many businesses, the biggest single cost is paying wages. Under the current government, the cost of paying wages has gone up as National Insurance contributions have been increased and income tax bands and relief have risen slower than wages.

A simple scheme to boost employment and small businesses would be to give exemptions from NI to all businesses for their first one, two or three employees (starting with the lowest paid). The cost of this tax break might be substantial, so could be met with a slight increase in employers' NI contributions. The beauty of this tax break, unlike everything done by Gordon Brown, is that it would be no-questions-asked available to all. No forms to fill, no accredidation process, nothing more than a head count of employees: one, two, three - ok now pay...

Of course, I am not expecting an immediate annoucement of this proposal from David Cameron, but if the Conservatives are to win the next election, they need some eye-catching policies which are easy to explain and, more importantly, easy to understand. Either that, or just phase out NI altogether and add the difference onto income tax, which would probably be much fairer as it would hit unearned income as well.