Richard Cooper, business development manager at the LIBF looks at how paraplanners can help clients to reduce the ‘high income child benefit tax charge’
Understanding the different ways to help clients reduce their tax is an important aspect of financial planning. Some clients may not wish (or be able) to reduce their tax contributions, but they should always be able to make an informed decision and understand their options.
If you have any clients with children eligible for child benefit and an individual income over £50,000, they may have to pay a tax charge known as the ‘high income child benefit tax charge’. This was introduced in 2013 to help reduce the UK’s national debt and to target benefits at those in lower-income groups who needed them most.
Key facts on child benefit
Child benefit is currently:
- £21.15 a week for the eldest child
- £14 a week for each additional child.
Qualifying children are:
- aged under 16, or
- aged under 20 and in full-time, non-advanced education or on certain approved vocational training courses.
What is the tax charge?
An income tax charge applies to people who get child benefit and whose income, or partner’s income, is more than £50,000 in a tax year.
If income is between £50,000 and £60,000, the charge is a proportion of the child benefit received. If it’s over £60,000, the amount of the charge is the same as the child benefit received.
The tax charge is 1% of the amount of child benefit received for every £100 of excess income over £50,000. For example, if your clients’ adjusted net income was £55,000 the tax charge would be 50% of any child benefit received (£55,000 – £50,000 = £5,000/100 = 50).
It’s important to note that child benefit itself isn’t being taxed or reduced. It will continue to be paid in full to the claimant unless they opt not to receive it.
What counts as income?
To work out if a client’s income is over the threshold, you’ll need to work out the adjusted net income.
Adjusted net income is their total taxable income before any personal allowances, less deductions for things like gift aid and pension contributions. HMRC has a useful child benefit tax calculator to get an estimate of your clients’ adjusted net income.
If their income is over the threshold, they can choose to either:
- receive child benefit payments, and pay any tax charge at the end of each tax year
- not receive child benefit payments, and not pay the tax charge.
Planning for the tax charge
How can you reduce or avoid the high income child benefit tax charge?
As adjusted net income allows for deductions for gift aid and pension contributions, clients could consider making gifts to charities using gift aid and/or making pension contributions.
Pension contributions can also be made using salary exchange which has the added benefit of leading to savings in National Insurance.
Example case study
Rajit has a taxable income of £57,000 and his wife Lucy has no income. They have three children which means Lucy receives child benefit of £2,555.80 a year. (That is, £21.15 + £14.00 + £14.00) x 52].
Since Rajit’s income is £7,000 over the limit, he’ll pay 70% of £2555.80, which comes to £1,789.06. This means that, after the ‘tax charge’ is taken into account, the overall value of the child benefit for the family has effectively been reduced to just £766.74 (£2,555.80 – £1,789.06).
To avoid this, Rajit could make a contribution to charity using gift aid for £7,000 or alternatively a pension contribution to an authorised pension scheme of £5,600 net (£7,000 gross).
This means that his adjusted net income falls to £50,000 and no charge is payable.
By contributing either £7,000 to charity or £5,600 net to a pension plan, he’s saved £1,789.06 in tax.
But there are even more benefits to making gift aid contributions or pension contributions. These contributions also extend the basic rate band, which means Rajit will be able to claim additional tax relief through his tax return.
If he had made either a gift aid contribution or a pension contribution s, he would be able to claim £7,000 @ 20% = £1,400 in additional tax relief.
Remember this is only one year’s saving and if you repeated it every year it leads to significant savings for the client. If it was over ten years, it could be as much as £31,890 in tax savings.
To put this another way, a £7,000 contribution to charity has only cost Rajit £3,810.94. (That is, £7,000 less the £1789.06 tax saved on the high income child benefit tax charge and the additional £1,400 tax relief.)
The charity has the benefit of receiving £8,750 as they can claim an additional 25% on the amount they receive in gift aid.
Making a pension contribution of £7,000 has only cost Rajit £2,410.94. (£5,600 net pension contribution less the £1789.06 tax saved on the high income child benefit tax charge and the additional £1,400 tax relief.)
Paraplanners are increasingly taking the lead in ensuring that clients have all the information they need to consider their options and make the right decisions for them and their family, including how to manage their tax charges.
This article was first published in the April 2022 issue of Professional Paraplanner
