We run through tax rules and allowances for Isas and pensions at the start of the 2020/2021 tax year, as well as detailing some changes that have been made.
At the start of a new tax year (2020/2021) we run through tax rules and allowances, as well as detailing some changes that have made.
The personal allowance, which is the amount you can earn tax-free before you start paying income tax, remains at £12,500. Pensioners do not receive a higher personal allowance than other age groups.
You will pay basic rate tax (20%) on your taxable earnings between £12,500 and £50,000. This means you can earn up to £50,000 before you start paying higher rate tax (40%).
The additional rate income tax (45%) is charged on earnings over £150,000.
Once you are earning more than £100,000 a year, your personal allowance is progressively reduced. It falls by £1 for every £2 earned over the £100,000 threshold, so anyone earning £125,000 has no personal allowance.
National insurance - employees
While most people won’t pay income tax on the first £12,500 they earn, employees will need to pay Class 1 national insurance contributions (NICs) once they are earning £183 a week.
Class 1 NICs are payable at a rate of 12% for earnings between £184 and £962 a week, which works out at between £9,500 and £50,000 a year. An extra 2% is applied on earnings above this threshold.
National insurance - self-employed workers
Self-employed workers who make more than £6,365 a year need to pay Class 2 NICs. These are a flat rate of £3.05 per week.
Additionally, self-employed workers who make more than £9,500 a year will pay Class 4 contributions of 9% of profits between £9,500 and £50,000 per year, plus 2% of any earnings above that.
The £9,500 threshold has been increased from £8,632. The government calculates that the typical employee should be around £104 better off and the typical self-employed will gain £78 in the coming tax year.
The tax-free dividend allowance will remain at £2,000 for the 2020/21 tax year.
On dividends received above the £2,000 threshold, basic rate taxpayers pay 7.5% tax and higher rate taxpayers pay 32.5%. Additional rate taxpayers will be charged 38.1% tax on dividend income over the allowance.
The dividend tax does not apply to investments held in an Isa or a pension.
Capital gains tax
Lower rate taxpayers pay 10% tax on capital gains, and higher and additional rate taxpayers pay 20%.
The only exception is for second properties, including buy-to-let investments. Capital gains on these investments will be taxed at 18% for basic rate taxpayers, and 28% for higher and additional rate taxpayers.
However, every year you can take advantage of your capital gains tax allowance, so in 2020/21 you can make £12,300 before you start paying capital gains tax, up from £12,000 previously.
A rule change at the start of the 2020/2021 tax year will negatively impact landlords and result in more CGT being paid. Find out all the details here.
Inheritance tax (IHT) is payable at the rate of 40% if the value of your estate exceeds the nil rate band (NRB), which is £325,000.
The residence nil rate band (RNRB), or home allowance, is an additional threshold that reduces the IHT payable on your estate, and is designed to make it easier for families to pass on the family home.
It stands at £175,000 in 2020/21 and applies if you’re giving away your home to your direct descendants, defined as children or grandchildren including adopted, foster and step-children.
The RNRB is added to the NRB. Therefore, in 2020/21 a couple’s total IHT threshold is £1,000,000 (£325,000 + £175,000 x 2). However, remember that the RNRB allowance is limited to the value of the home bequeathed.
Most people are allowed to pay up to £40,000 into their pension in 2020/21, known as the annual allowance.
For the ultra-high earners who earn an ‘adjusted income’ of over £240,000, the annual allowance tapers by £1 for every £2 of income, to a minimum of £4,000 per year.
The taper threshold was increased from £150,000 to £240,000 in March’s Budget. It previously impacted a wide range of high earners including doctors and senior medical professionals.
Pensions contributions receive full income tax relief; this means it costs basic rate (20%) taxpayers £80 to save £100 into their pension, while higher rate (40%) taxpayers only need to pay £60 to save £100. There has been much speculation that a flat rate of pension tax relief may be introduced in the future, but to date there is no concrete evidence this is on the government’s agenda.
The lifetime pensions allowance has been increased by £18,100 for the 2020/21 tax year, in line with inflation (consumer price index), and now stands at £1,073,100.
The lifetime allowance, introduced in 2006 by the then chancellor Gordon Brown and essentially a stealth tax on investment success, has been progressively whittled away over the years, thereby boosting the Treasury coffers as more people’s pensions have breached the threshold and incurred penalties. But in 2017, when the lifetime allowance stood at £1 million, it was announced that it would from now on be increased each year in line with inflation.
You can once again save a total of £20,000 in an Isa this tax year, where all your earnings will be completely free of tax. The limit applies to Cash Isas, Stocks and Shares Isas and Innovative Finance Isas, and the allowance can be spread between the three types.
You can save £4,000 a year into a Lifetime Isa, and this can be used towards the cost of buying a first home or for retirement.
If you’re looking to buy a home, there’s also the Help to Buy Isa, but this is no longer available for new savers. Those who opened a Help to Buy Isa before the Isa closed to new savers in December 2019 can save up to £3,400 in the first year and then £2,400 each year afterwards.
Finally, the Junior Isa allowance has risen dramatically for the 2020/21 tax year, from £4,368 to £9,000. This same limit applies to Child Trust Funds (CTFs). It has previously risen every year in line with inflation.
Personal savings allowance
You might be able to reduce your tax bill further if you receive income from savings.
Following the introduction of the new personal savings allowance in April 2016, basic rate taxpayers can now earn £1,000 from savings before they start paying income tax on savings income.
Higher-rate taxpayers start paying tax on savings income over £500. These allowances remain unchanged for 2020/21. There is no savings allowance for additional rate taxpayers.