Savings allowance and savings nil rate and deduction of tax at source Consultation on draft clauses 1 & 4 Finance Bill 2016
Response by the Chartered Institute of Taxation
1 Introduction
1.1 Draft clause 1 introduces a new nil rate of tax for savings income (such as interest) within a savings allowance for individuals. Each individual will have an annual savings allowance of £1,000, unless they have any higher‐rate income for the year (in which case their allowance will be £500) or any additional‐rate income (in which case their allowance will be nil). The clause will have effect for savings income paid or credited on and after 6 April 2016.
1.2 Draft clause 4 and Schedule amend Part 15 of the Income Tax Act 2007 (ITA) to remove the requirement upon deposit‐takers (such as banks), building societies and other institutions to deduct sums representing income tax from the interest or other returns they pay on certain savings, investments and alternative finance
arrangements. Again, the changes have effect in relation to interest paid or credited on and after 6 April 2016.
2 Overall comments on the draft legislation
2.1 We have broadly welcomed the introduction of measures to simplify the taxation of savings income1. The introduction of the savings allowance, combined with the
cessation of the Tax Deduction Scheme for Interest (TDSI), will represent a small tax reduction for the majority of taxpayers who have small amounts of investment
1 See our response of 18 September 2015 to the recent HMRC Consultation Document ‘Deduction of income tax from savings income: implementation of the Personal Savings Allowance’
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income, and there will be a compliance saving for a number of taxpayers - but there will be exceptions.
2.2 At the time we responded to HMRC’s consultation document last year, HMRC had not announced how the saving allowance would work, so we were unclear about whether it would be a tax free allowance or whether it would operate within the basic rate and higher rate bands. Ideally the consultation would have followed the details being made public.
2.3 Now that we have seen the draft legislation and understand how the savings
allowance will operate, we are concerned that the way it has been designed will lead to unnecessary complexity and some ‘cliff-edge’ tax liabilities for taxpayers whose income levels fall just over the higher-rate threshold.
2.4 An overall concern is that we already have complex legislation (eg assorted
thresholds that are not logical, different rates of tax for different types of income) and when further complex legislation is introduced (eg savings allowance), we end up with interaction that creates even more complexity.
2.5 The savings allowance is complex because not only are there two different savings allowances depending upon whether a taxpayer is a basic rate or higher rate
taxpayer (three if you include the fact that the allowance is not available to additional rate taxpayers), but also because despite its name, the savings allowance is not actually a tax free ‘allowance’. It is unfortunate that the terminology used has the potential to lead to confusion about how the new savings allowance operates. Rather than being a tax free allowance, like the main personal allowance, it is in fact a nil-rate band that does not extend the basic or higher nil-rate bands. The savings
allowance will not reduce ‘total income’ for tax purposes (as defined in section 23 ITA 2007). Savings income that is within the ‘allowance’ will still count towards an
individual’s basic and higher rate limits. The income will also flow through to ‘net income’, ‘adjusted net income’ and all other derivatives from total income. Therefore it will still affect allowances and charges which are dependent on whether an
individual’s income crosses a particular threshold. For example, the High Income Child Benefit Charge (£50,000), the personal allowance income limit (£100,000), and pension tapering (threshold income of £110,000; adjusted income of £150,000). In addition, the starting rate for savings is retained and will operate alongside the savings allowance. It is likely that this will be very confusing for the 1.4 million taxpayers2 who will still be paying tax on their savings income after the measure is
introduced. Our suggestion is that it should be renamed in the legislation to make it clearer that it is not an allowance in the widely understood sense of the word.
2.6 Draft clause 1 introduces the amendments to ITA 2007. New s.12B determines which level of savings allowance applies.
The rule [ss.(3)] is ‘If –
(a) any of the individual’s income for the year is higher-rate income, and (b) none of the individual’s income for the year is additional-rate income, the individual’s savings allowance for the year is £500.’
2 HMRC’s Policy Paper published on 9 December 2015 states that ‘Around 1.4 million individuals are expected to
still have some tax to pay on their savings income after the PSA has been introduced’.
https://www.gov.uk/government/publications/income-tax-personal-savings-allowance/income-tax-personal-savings-allowance
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By contrast, ‘If none of the individual’s income … is higher-rate income’ the £1,000 savings allowance applies [ss.(4)]. There is a cliff-edge effect of reducing the allowance as the taxpayer moves from one income band to another.
2.7 EXAMPLE:
Becky has earned income and £1,000 of savings income. Her total income equals the basic rate limit, so she is entitled to a £1,000 savings allowance. Her savings income is taxed:
£1,000 x 0% = £0.00
Anne has earned income and £1,000 of savings income. Her total income is £1 above the basic rate limit, so she is entitled to a £500 savings allowance. Her savings income is taxed:
£500 x 0% = £0.00 £499 x 20% = £99.80 £1 x 40% = £0.40
£100.20
For Anne, a £1 increase in income produces a dramatic £100.20 tax charge, so Anne is in fact £99.20 worse off than Becky. This is clearly unfair under any measurement. One of the consequences with any cliff-edge is that taxpayers will try to avoid it. 2.8 We suggest that serious consideration be given to recasting the relief on the same
model as the dividend allowance, which is simpler to understand and operate. Although the dividend allowance, like the savings allowance, does not reduce total income, there is only one rate (of £5,000). This removes some of the complexity and difficulties we have identified with the savings allowance.
2.9 A second-best approach would be to temper the cliff-edge effect of the current design, but at the cost of some additional complexity. The £500 and £1,000 allowances could remain, but in each case, when the higher-rate or basic-rate threshold is breached, the savings allowance is tapered back by £1 for each £2 in excess (a well-established formula from the old age-allowance and the current withdrawal of the personal allowance) until the lower level is reached.
2.10 In some cases the ending of TDSI will cause problems which will need to be addressed by HMRC to ensure that taxpayers pay the right amount of tax on their interest income where their interest income is in excess of the savings allowance. We understand that there is already low awareness among PAYE higher rate taxpayers of the need to notify HMRC about savings income.3 The changes being
made will lead to some basic rate taxpayers and higher rate taxpayers, who are not issued with a notice requiring a tax return, being required to notify HMRC about savings income. HMRC need to carry out work to raise awareness of taxpayer duties in relation to tax on interest income.
2.11 There will be an impact on some individual taxpayers who make charitable
donations, as the combined effect of the savings allowance and the removal of the requirement for banks and building societies to deduct basic rate income tax at source from interest payments may mean that they no longer pay sufficient tax to
3 Chapter 1 Key Findings, ‘Awareness and Understanding of Taxation of Savings Interest’ – Research Report 370
(May 2015): https://www.gov.uk/government/publications/awareness-and-understanding-of-taxation-of-savings-interest
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cover the tax attributable to their gift aid donations, and would be liable for the shortfall.
2.12 Due to the complexity of the operation of the saving allowance, it is essential that guidance (including tools such as calculators) is produced by HMRC, so that taxpayers can understand:
whether they are eligible for the savings allowance, whether £1,000 or £500 (or 0%);
what type of income is eligible for the savings allowance;
how much of their savings income falls within the savings allowance and how much is liable to tax;
how much tax they have already paid on their savings income and how to calculate any additional tax liability;
how to pay more tax if necessary; and how to claim a tax refund if appropriate.
2.13 In addition, it is vital that the guidance and tools provide clear explanations and worked examples of how the savings allowance interacts with the new ‘dividend allowance’, the various tax bands and the starting rate for savings. Taxpayers need to be able to understand it so they can make informed decisions about their financial affairs.
2.14 We also have concerns about the compliance burden that the introduction of the savings allowance and dividend allowance will have on trusts and personal representatives (see paragraph 3 below).
2.15
2.1 We think that it is unfortunate that the allowance is being referred to as the savings allowance. This creates the potential for confusion with Individual Savings Accounts (ISAs) and Self-Assessment (SA). We have therefore referred to the allowance by its full title throughout this document (the ‘savings allowance’) to avoid any confusion with other well-known acronyms.
2.16 We have commented separately on the new ‘dividend allowance’ being introduced by draft clauses 2 and 3.
3 Compliance Burden on Trusts and Personal Representatives
3.1 Trustees and personal representatives do not receive either the savings allowance or the dividend allowance and will remain liable to the trustee or standard rates
applicable in full on the relevant category of income.
3.2 The savings allowance applies to individuals only. Savings income of trustees and personal representatives will be liable to the appropriate rates on such income. These persons will face an increased compliance burden in cases where a return would not have been required previously because interest was received after deduction of 20% tax (for example, a discretionary trust with income within the £1,000 standard rate band, an interest in possession trust where the trustees’ liability is satisfied by the 20% deduction or an estate in the course of administration where the personal representatives’ liability would be similarly satisfied).
3.3 We note that HMRC have already identified that there will be administrative impacts for trust and estates from the introduction of the savings allowance. We look forward
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to being able to work with HMRC on possible measures to reduce the additional compliance burden.
3.4 Currently, HMRC Trusts and Estates do not require completion of a return for estates in the course of administration where, inter alia, the tax liability for the administration period does not exceed £10,000; in such cases an informal computation and
payment of tax is accepted.4
3.5 Given that personal representatives will now have a tax liability in respect of dividends (see comments in our submission on the new dividend allowance), and many liabilities in respect of interest will no longer be satisfied by deduction of tax at source, there is strong argument for raising the figure for informal settlement, so as to minimise compliance costs.
3.6 Recent announcements by the Government on the introduction of Digital Tax Accounts have not mentioned trusts and so it is unclear whether there is any intention to give trusts their own Digital Tax Account which would benefit from the pre-population of bank interest and dividends in the future. Given that online tax return filing is not possible with HMRC software (the trustees who choose to file online or file after 31 October must purchase a commercial trusts software package) we suspect that digitisation here will not be a priority, but there does not seem to be any reason why trusts should be excluded from digitisation of the tax system.
4 Comments on the draft legislation
4.1 There seems to be a difference in method for the transition from higher rate to additional rate, when compared to the transition from the basic rate to the higher rate; instead of losing the £500 savings allowance completely when a taxpayer’s income is £1 over the threshold, that loss occurs at a higher level - of threshold plus up to £500 when moving from the higher rate band to the additional rate band. This seems to be what draft clause 12B (8) (as currently drafted) is indicating since clause 12B (8)(a) does not contain a sub-clause similar to clause 12B(8)(b)(ii). We think this will only affect a very small minority of taxpayers that would otherwise be additional rate taxpayers, ie those with no taxable income above £150,500, and no dividend income, but this does seem to be an added complication. The reason for the difference is unclear. We would be grateful for clarification of this point.
4.2 The interaction with the starting rate is difficult to understand as drafted. Draft clause 12A (1) states: ‘This section applies in relation to an individual who has savings income above the starting rate limit for savings’, which indicates that a taxpayer with savings income of less than £5,0005 would not be eligible for the savings allowance.
We assume that it is the intention that a taxpayer with savings income below £5,000 who is not entitled to the starting rate for savings will be eligible for the savings allowance. Our suggestion would be to rephrase clause 12A (1) as follows: ‘This section applies in relation to an individual who has savings income that does not fall within the starting rate limit for savings’.
4.3 We have no other specific comments on the draft legislation, beyond the general comment already made that we believe that the introduction of the savings allowance
4 See Trusts and Estates Manual 7410 http://www.hmrc.gov.uk/manuals/tsemmanual/tsem7410.htm. 5 The starting rate limit for savings is £5,000 for 2015/16 - section 12 ITA 2007
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in its current form has resulted in some unnecessarily complex legislation and attendant complications to the structure of the income tax computation.
5 Acknowledgement of submission
5.1 We would be grateful if you could acknowledge safe receipt of this submission, and ensure that the Chartered Institute of Taxation is included in the List of Respondents when any outcome of the consultation is published.
6 The Chartered Institute of Taxation
6.1 The Chartered Institute of Taxation (CIOT) is the leading professional body in the United Kingdom concerned solely with taxation. The CIOT is an educational charity, promoting education and study of the administration and practice of taxation. One of our key aims is to work for a better, more efficient, tax system for all affected by it – taxpayers, their advisers and the authorities. The CIOT’s work covers all aspects of taxation, including direct and indirect taxes and duties. Through our Low Incomes Tax Reform Group (LITRG), the CIOT has a particular focus on improving the tax system, including tax credits and benefits, for the unrepresented taxpayer. The CIOT draws on our members’ experience in private practice, commerce and industry, government and academia to improve tax administration and propose and explain how tax policy objectives can most effectively be achieved. We also link to, and draw on, similar leading professional tax bodies in other countries. The CIOT’s comments and recommendations on tax issues are made in line with our charitable objectives: we are politically neutral in our work.
The CIOT’s 17,500 members have the practising title of ‘Chartered Tax Adviser’ and the designatory letters ‘CTA’, to represent the leading tax qualification.
The Chartered Institute of Taxation 29 January 2016
