Tax and investments – Laith Khalaf, head of investment analysis at AJ Bell:
6) Dividend tax rate increases by 1.25 percentage points in April
- Basic rate taxpayers rise from 7.5% to 8.75%.
- Higher rate taxpayers rise from 32.5% to 33.75%.
- Additional rate taxpayers rise from 38.1% to 39.35%.
Impact: Take someone who owns their own company and pays their salary entirely in dividends. In 2022/23 they expect to pay themselves £50,000 in dividends.
The first £12,570 of income is within the personal allowance and so taxed at 0%. The next £2,000 of dividend income is tax-free via the dividend allowance. The remaining £35,430 falls within the basic-rate tax band.
If they had earned that much dividend income in 2021/22 they’d be taxed at 7.5%, leaving them with a £2,657.25 tax bill.
In 2022/23 they will be taxed at 8.75%, leaving them with a £3,100.13 tax bill.
“In the face of low interest rates, many savers have turned to the stock market to provide them with an income. Dividends are going to face even higher rates of income tax next year, so it’s even more pressing that investors shelter their dividend-paying shares in SIPPs and ISAs where they can.”
7) Frozen allowances
- Personal allowance at £12,570, and income tax thresholds frozen
- Pensions lifetime allowance at £1,073,100
- CGT allowance at £12,300
- ISA allowance at £20,000
- JISA at £9,000
- IHT threshold and Main-residence Nil-rate Band stay the same at £325,000 and £175,000
- Dividend allowance remains the same at £2,000
Impact: The examples below show estimates of what taxpayers might pay in extra taxes as a result of income thresholds being frozen, depending on their income. The figures are based on OBR expectations for inflation and average earnings increases. The figures show that those getting paid around the higher rate threshold (frozen at £50,270) get hit pretty hard, because inflationary increases in the threshold would ordinarily have offered some protection against paying higher rate tax.
| Income tax payable 2022/23 to 2026/27 | |||
| Current income | Frozen thresholds | Inflation-linked thresholds | Additional tax |
| £25,000 | £14,808 | £13,707 | £1,101 |
| £50,000 | £46,621 | £41,339 | £5,282 |
| £80,000 | £112,449 | £106,945 | £5,505 |
Sources: AJ Bell, OBR
Assumptions: Wage growth and inflation rise according to OBR forecasts, income tax rates remain the same, individuals receive no additional income or income tax reliefs
“Freezing tax allowances, combined with inflationary pressure on wages, is going to produce fiscal drag on steroids. This is good news for the Chancellor, who can expect to pull in more money as salaries rise, but of course that is a direct transfer from workers’ pockets. No-one in their right mind is going to turn down a pay rise simply to avoid tax, but workers can reduce their tax bills with a bit of financial planning, in particular using pension contributions and spreading assets between spouses in order to mitigate higher taxation.”
8) Inflation may yet prove transitory
“UK inflation sits at 4.2% as measured by the Consumer Price Index, its highest reading in almost ten years, and almost everybody recognises things are going to get worse before they get better. A lot of the inflationary pressure in the system has come from energy prices, which have soared thanks to demand picking up globally in a synchronised manner, as the US, Europe and the UK all emerged from the depths of the pandemic at roughly the same time.
“There’s already some further pain in the pipeline on that score, because the Ofgem price cap on retail energy prices is expected to jump up again next April, pushing up the cost of the average gas bill by around £150. After a temporary reduction, VAT on hospitality will go back up to 20% at the same time, so that probably all adds up to inflation rising above 5% next spring, and household budgets coming under even more pressure.
“With prices rising so significantly above the 2% CPI target, one might think the Bank of England would be raising interest rates. So far there’s been talk, but little action, because the Bank has largely dismissed inflation as transitory. That view is beginning to wane, with two members of the rate setting committee breaking ranks and voting for a hike at the last meeting. Another interest rate decision is now looming, but the Omicron variant has poured cold water on expectations for any action. The markets are now pricing in a 75% chance of rates staying precisely where they are until February of next year.
“There will no doubt be some consternation about the Bank’s inactivity, but there is some method in the apparent madness. An interest rate rise would do little to alleviate current inflationary pressures, which are coming from a pick up in global demand, combined with disruption to supply chains as a result of the pandemic. Gradually, those two factors should moderate, and future contracts in both gas and shipping now point to declining prices in the longer term. Headline inflation is an annual figure, and in order to remain elevated it requires high prices not just to persist, but to continue to rise year on year. In twelve months’ time, it’s actually possible that the energy market will be applying downward pressure to inflation, because the comparison will be with a base of today’s heightened prices.
“There are those who think the strength of the labour market is another cause for concern when it comes to stoking inflation. Certainly the numbers look quite stark, with job vacancies at a record level, and wage growth on the up, as employers compete to get staff on their books. Part of this problem may be the labour market is just catching up with the rapid economic recovery, or there may well be frictional dislocations, as the jobs required by the post pandemic economy are different in type and location compared to those in demand before. The jury is really out on whether the strength of the labour market is cause for inflationary concern, because we are still at a relatively early stage of emerging from the pandemic. Waiting for labour market data that is not heavily distorted by the furlough scheme seems a sensible course of action for the rate setting committee to take.
“The Bank of England takes its fair share of stick for interest rate decisions, and that’s probably been exacerbated by the former governor Mark Carney’s unreliable boyfriend act, and the more recent comments by the current chief Andrew Bailey, that prompted markets to bet heavily on a November rate rise. However, the Bank’s analysis shouldn’t be dismissed lightly, given the resources and expertise they dedicate to forecasting inflation. That doesn’t mean we have to blindly accept their judgement that inflation is transitory, but we should give it proper weight.”
