Page last updated at 00:03 GMT, Wednesday, 27 January 2010

Couples and the tax system

Money Talk
By Robin Williamson
Low Incomes Tax Reform Group

Couple getting married in the snow
Personal finances can change after the wedding day

There has been some debate in political circles about whether the tax system should reward marriage, or be neutral as between married and unmarried couples.

Whatever the pros and cons of that debate, this article sets out some facts about how marriage, civil partnerships and living together are recognised in today's tax and tax credits systems.

The old married couple's allowance was in fact abolished for most people from 6 April 2000.

The money saved by the Treasury was re-invested in the children's tax credit which could be claimed for 2001-02 and 2002-03. That was then superseded by the child tax credit in 2003-04.

Since December 2005, civil partners have been treated in exactly the same way as married couples for both tax and tax credits purposes.

So in this article marriage also refers to civil partnerships.

The facts

The mainstream tax system - for personal taxes but not tax credits - is based on individual taxation, but recognises marriage in certain ways.

Mainstream tax and tax credits have a different recognition of couples
The main tax-free personal allowance is an individual consideration
Unmarried couples who live together do not benefit from some inheritance tax provisions
Married couples should be aware of complex capital gains tax rules

For tax purposes couples remain married unless and until they separate under a court order, or in circumstances in which the separation is likely to be permanent.

Separations because of illness, work, old age, immigration difficulties or imprisonment are generally not regarded as permanent if there is no intention to end the marriage.

Mainstream tax does not recognise couples who live together but are not married, and does not recognise "common law" marriage.

They are treated simply as individuals and do not benefit from any of the tax breaks available to married couples.

Tax credits, on the other hand, define a couple as two people who are married to each other, or who are living together as if they were married.

Couples have to claim jointly, and are generally entitled to fewer tax credits than two single individuals would be.

Hence tax credits investigation teams are keen to ensure that claimants do not suppress the existence of a partner when claiming.

Tax credits also recognise polygamous unions, which are not recognised in mainstream tax.

Transferring allowances

Personal allowances are the first slice of an individual's income on which no tax is paid.

Robin Williamson
Robin Williamson

Each individual, regardless of his or her marital status, can claim any personal allowance to which he or she is entitled.

Spouses are able to transfer the blind person's allowance (BPA) and the married couple's allowance between them.

In other words, if one spouse has insufficient income to absorb the allowance, he or she can transfer it to his or her partner.

The main personal allowance cannot be transferred.

It is worth looking at an example.

Jim lives with his wife Joanna and is registered blind.

His income is £7,000 in 2009-10.

He gets the basic personal allowance of £6,475 and is entitled to the BPA of £1,890.

But he can use only £525 (£7,000 less £6,475) of the BPA, so he transfers the remaining £1,365 of the BPA to Joanna.

Meanwhile the married couple's allowance (MCA) is available only if either spouse was born before 6 April 1935.

The maximum MCA for the tax years 2009-10 and 2010-11 is £6,965 but it is a tax reduction, not a full allowance.

It is worth 10% of that amount (£696.50), and is taken off the tax bill.

Investments and inheritance

Tax issues are not just a result of earnings. Couples need to consider the result of coming into some money that has been left by relations or are the result of investments.

Couples who own an investment jointly are each usually taxed on half the income from it.

Married couples can make unlimited lifetime gifts to each other free of inheritance tax

But if they contributed unequally to the capital, they can opt to be taxed on an amount equal to their contribution by making a declaration on Form 17.

Married couples can make unlimited lifetime gifts to each other free of inheritance tax (IHT) free and can inherit the estate of the other free of IHT.

That has been augmented since October 2007 by the "transferable nil-rate band" or NRB.

This means that a widow or widower dying now can add to their nil-rate band (NRB) any proportion of the NRB of their late spouse as remained unused on that earlier death.

Here is another example to illustrate that.

Sid died in May 2007 leaving an estate valued at £150,000.

The NRB was then £300,000 but when Doris, Sid's widow, died in May 2009 the NRB was £325,000.

Doris's estate benefits from that, plus another £162,500 which represents the unused portion of Sid's nil-rate band (£150,000/£300,000 x £325,000).

However, if the donee spouse is not domiciled in the UK (which means broadly that the UK is not their real, ultimate home) the exemption is limited to £55,000.

Unmarried couples who live together do not benefit from these provisions.

Capital gains tax

Much debate has been had over the levels of capital gains tax - a levy that first came into force in 1965.

Each member of a couple is entitled to an annual amount free of capital gains tax (CGT) - £10,100 in 2009-10.

Therefore a married couple who make a disposal of jointly owned property can set two exemptions against the chargeable gain.

However, if married couples have more than one residence between them, they must elect which of them is their main one for CGT purposes, although there are some complex rules to be aware of.

Unmarried couples fare better, each with his or her own main residence relief.

A former matrimonial home can continue to be treated as the main residence of either spouse until it is transferred to the other partner as part of divorce or separation proceedings.

As for IHT, married couples can make gifts to one another free of CGT, but once again this exemption is not available to unmarried couples who live together.

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