Taxing questions

Patrick Stevens, a tax expert at Ernst and Young, answers your questions on tax.

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When Clare Knowles moved in 1998, she kept her previous property for letting.

She's now thinking about selling and wants to know how she will be affected by capital gains tax - the house's worth has increased from £80,000 to £150,000.

Ordinarily, a person is not required to pay any capital gains tax when they sell their home because of what is known as the "principal private residence relief".

This relief exempts a person or married couple from capital gains tax on any profit made on the sale of their home. In this case Clare is proposing to sell a property which since 1998 has not been her principal residence and as such the full exemption does not apply.

However, there is relief given for the gain on a property which has previously been her principal residence for a period of time.

This relief exempts the proportion of the gain which represents the length of time when the property was the principal residence (and additionally the last 36 months of ownership) compared to the total period of ownership.

That is, if Clare bought the property 10 years ago and it was her principal residence for four years then she would be exempt from 70% of the gain (before taper relief). The calculation is:

4 years + 3 years (last 36 months) = 70% of 10 years

Taper relief of a further 15% of the taxable gain (if sold before 6 April 2004; 20% if sold after) would apply to any gain after the principle private residence relief described.

Taper relief is given on a sliding scale dependent on the period of ownership following the introduction of taper relief in April 1998.

Before Taper Relief there was indexation, an attempt to adjust for inflation which would also apply to give a small amount of addtional relief.

Also, any person has an annual exemption from capital gains, which is currently £7,900.

Kevin Ryan is a 40% tax payer and has in excess of £7900 losses in shares for this tax year with no gains. Can he offset this against his tax paid?

Losses on capital assets such as shares can only be used against capital gains in the same tax year or carried forward to provide relief against capital gains tax in future periods.

The losses cannot be used against other income such as tax on his wages or salary. The only exception to this is if the shares were in a non-quoted trading company (not a company that mainly holds investments) and the shares were acquired by subscribing for new shares in the company.

Jackie Webb asks: "Is it possible to use the capital gains tax allowance before April and then again in April of the same year - therefore using two sets of allowance in one calendar year?"

The capital gains tax allowance or annual exemption for an individual (currently £7,900) applies to any tax year.

Tax years for individuals end on 5 April each calendar year. Jackie could sell an asset on 5 April 2004 for example and use the exemption for 2003/2004 and then sell another asset in the next year on 6 April 2004 and use the exemption for 2004/2005 (yet to be set by the Chancellor in this year's budget).

Martin Kamm understands that from April it will not be possible to recover the 10% tax credit on dividends from shares held in Peps.

Will he have to declare such dividends on income tax returns? If the holder is a higher rate tax payer, will he have to pay the extra 32.5% on such dividends?

People who have subscribed to Peps and their replacement, Isas, have benefited from an exemption from tax on shares in respect both of income tax on the dividend income and also capital gains tax on the shares held within these plans.

These reliefs will remain and as such it will not be necessary to declare dividends within a Pep or Isa on a personal tax return nor to pay the extra 32.5% top rate of income tax on those dividends.

A dividend would usually attract a notional tax credit of 10%. For example a dividend declared by a UK company of £450 would represent, on an individual's tax return, £500 of dividend income with a £50 tax credit notionally deducted.

In reality the income received is the £450 however, and until 5 April 2004, it is possible to receive the additional credit (£50) within a Pep or Isa - the credit would be claimed by the account manager (i.e. the bank).

From 6 April 2004 this additional credit within Peps and Isas is scheduled to be removed - although the Chancellor may extend the scheme in the budget.

Mrs Bryce has an endowment policy with Standard Life. Will she have to pay tax on the lump sum at the end of the policy?

The term endowment policy can cover many different contracts so it is not possible to give a firm answer without seeing the policy.

However, provided the policy is for the regular payment of the same or similar contributions over at least 10 years, then it will almost certainly be a "qualifying policy" for tax purposes and any proceeds will be tax free.

However, if there are one or more lump sum contributions, any profit is likely to be taxable.

Muriel Gaitskell asks: "I took early retirement from teaching and live on my pension. Last year I took a temporary job for six weeks and was taxed - am I due a rebate?"

There is not sufficient information here to provide a conclusive answer, however it is likely that she may be due a full or partial refund.

We would recommend that she either seeks advice from her local Citizens Advice or directly from her local Inland Revenue office - taking the relevant documents to show her annual income such as her P45 from the employer and pension details.

When providing documents to the Inland Revenue in order to claim any rebate, she should keep a copy for herself, as the Inland Revenue is likely to require the originals.

Patricia Kirkland has a joint mortgage to her own home. In addition, she is guarantor to her mother who bought her house from the Forestry Commission at a concessionary rate.

Patricia pays two thirds of the mortgage for her mother's house but has no legal rights to the house. She's considering joint ownership to protect her but is concerned about capital gains tax should they need to sell the house to fund her mother's care one day.

There could be a capital gains tax problem here if Patricia takes part ownership of the house and then it is sold - the part asset she owns will not be her principal residence and therefore any profit she makes will be fully taxable on her.

The amount of profit will be any increase in the market value of her share from the time it is gifted to her, but even then, the gain may be reduced by taper relief, depending on the period from receipt of her share to date of sale, and by the annual capital gains tax exemption.

However, it is also essential to think about any inheritance tax consequences of her mother giving away part of her assets.

Philippa Morrell asks: "I've just set up a limited company and want to know where I should start when it comes to tax, both personal and that related to the company?"

There is a lot to explain in terms of taxes for companies and individuals in this situation and we would recommend that she arranges a meeting with her accountant to discuss these more fully. We have just set out a brief overview of the taxes which would probably need to be considered:

Income tax versus corporation tax
Individuals pay income tax on their earnings, bank interest, dividend income and capital gains. As she's director of the company, the company can pay Philippa an income in the form of a salary or by dividends (there are other possibilities which can give tax savings surrounding things such as pension contributions that are not covered here.)

Generally speaking, the tax on dividends can be lower than that on salary income. Tax returns for individuals are due to be sent to the Inland Revenue for years ended 5 April by the following 31 January and this is usually also the tax payment date for individuals who haven't paid their tax by Paye.

Companies file corporation tax returns (called CT600) within 12 months following their year-end. A company's year end can be any date they wish but Companies House must be informed of any change to the accounting date.

The default accounting date is 12 months following the end of the month of incorporation (creation of the company).

Companies pay different rates of tax for different bands, starting with 0% (0-10,000 taxable profit) and increasing to 30%. Philippa will need to ensure that she maintains separate records for the company, in order to easily identify income and expenses which relate to the company rather than her own income.

A basic way of doing this is to operate a company bank account, and she should discuss with her accountant what records to keep.

National Insurance
Both companies and individuals make national insurance contributions based on the employee's earnings.

If Philippa is going to employ anyone in her business, including herself if she is going to take a salary, then she may be required to operate a payroll scheme for both "pay as you earn" (income tax deducted for the Inland Revenue by the company from employees' wages) and national insurance contributions.

VAT
This depends on what the company is selling and the level of sales it may be required to register for VAT. A company currently needs to register for VAT if either:

it expects to make sales of vatable products or services (some trades or products are exempt from VAT) in excess of £56,000 in the next 30 days

or it has exceeded sales of £56,000 of goods or services (vatable) in the past 12 months.

Ordinarily, VAT requires quarterly returns to be prepared for customs and excise, however there are various schemes available for smaller companies, to reduce the burden of VAT in terms of both cash flow and administration. Advice should be sought if further clarification is required.

Margaret Pannell is on the state pension and wants to know how much savings she's allowed before income tax is incurred.

It's useful to look at some background on the new pension credit scheme, which can increase the amount of income available to pensioners over 60 years of age.

The standard state pension is currently £77.45 per week. Under the new pension credit scheme a pensioner aged 60 and over is guaranteed an income of £102.10 (£155.80 if they have a partner).

If aged 65 or over there are further entitlements for those who have been able to save for their retirement - for example, through cash savings or pension plans up to certain levels of income.

The calculations are complex, although the pensions service will carry out the calculations for you.

The state pension and any income from savings such as interest are taxable under the income tax rules, whereas any entitlement to a pensions credit is not.

As such, claiming the pensions credit should not affect your tax position, as for all people there are annual allowances of income (i.e. state pension and bank interest) which are exempt from income tax.

Currently the standard personal allowance is £4,615 and there are also age linked allowances.

For someone aged 65-74 this would become £6,610 and if aged 75 and over it is £6,720 (these age allowances are earnings linked - if you have income of more than £18,300, then the allowances are reduced by £1 for every £2 earned above this level).

Additionally, there may be a further allowance for married couples if you are married and you or your partner were born before 6 April 1935.

Kris Jones wants to know: "Is there a tax advantage to be had from an offset mortgage? That is, it's only the excess of savings over the amount of the mortgage on which interest is received and which is therefore taxable?

Yes, there is an advantage. Any interest you receive is taxable, whereas interest paid out on a mortgage gets no tax relief.

An offset mortgage nets these amounts out and normally leaves no interest to be received and therefore no tax. The reduction in mortgage interest paid is the gross interest that would have been received and not the interest after tax.

Angela Massie co-habits with her boyfriend in a house which they jointly own. Is it true that in the event of one of them dying, the other would have to pay inheritance tax on the total value of the property?

No, that is wrong. When an individual dies, they pay inheritance tax on everything they own at that date plus, in some cases, things they have given away in the previous seven years.

If Angela and her boyfriend own the house jointly, they will either have agreed the proportions in which they own it or, failing that, own it equally, and it is only her share of the value that will be added into her assets at the date of death.

In any event, there is an exemption from tax for the first £255,000 of value in the total assets.

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The opinions expressed are Patrick's, not the programme's. The answers are not intended to be definitive and should be used for guidance only. Always seek professional advice for your own particular situation.