Tax-efficient ways to spend your bonus
As the bonus season approaches those in the finance industry traditionally start hatching plans for a much-needed holiday, a smarter car or property upgrade. All worthwhile spending plans, but before heading off to the travel agent or car showroom, it’s worth pausing to consider improvements to your tax position, whether now or in the future.
Pensions: tapping into unused tax relief
Pension funds remain the most comprehensive form of tax relief available to UK investors, with tax relief on entry, a gross roll-up of returns and a measure of tax relief on extraction. Further down the line, there is even relief from inheritance tax on the fund. So, if you haven’t done so already, putting bonus funds into a pension may be appropriate in terms of both current and future tax efficiency.
The catch is that, as a higher earner, your tax relief on contributions may be severely restricted. Most people get tax relief at higher rates on contributions up to £40,000 per year, so there’s an immediate benefit. For those earning more than £240,000 the maximum contribution to a pension fund will be reduced (or tapered) by £1 for every £2 of income over £240,000 until you get to a minimum contribution of £4,000. It’s still worth considering contributing and worth looking back at the last three years’ contributions to see if you have an unused capacity which could increase your tax relief in the current year.
Investment bonds: tax-free growth
One meaningful approach would be to direct your bonus towards an investment bond. These are lump sum investments in stocks and securities but within a bond ‘wrapper’. They come in onshore and offshore varieties. They are not suitable for all, but one advantage of holding an offshore bond is that there is no tax on the growth in the bond during its life, although the price for this is income tax rather than capital gains tax on the growth on maturity or surrender.
Access to the fund is available up to 5% of the original bond value per year. This works cumulatively so that, if you don’t take 5% in year one, you can take 10% in year two and so on. If you don’t need the cash in the short term, then the ability to draw on the bond capital further down the line can be a useful tax-free supplement to retirement income. Also useful is the ability to assign the bond to your loved ones without triggering the tax liability on the growth, which means these bonds can be used to cascade value to subsequent generations tax efficiently.
ISAs: give your family a bonus too
No piece on tax-efficient investment would be complete without the mention of the ISA. It’s still going strong in both cash and stocks and shares forms and assigning £20,000 of a bonus to an ISA would always be a smart move. ISAs for family members could be funded too.
How Weatherbys can help
Tax efficiency is often a matter of getting funds into the right wrappers but planning for your future is much more than that. If you’re hoping to use a bonus as a foundation for a secure financial future, it’s sensible to get the right financial advice. At Weatherbys we support our clients through all stages in their financial lives, helping them to achieve their life goals.
Investments can go up and down in value and you may not get back the full amount originally invested. Tax laws are subject to change and taxation will vary depending on individual circumstances.