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Nothing illegal about avoiding taxman

Why pay tax when you do not have to? The taxman, now known as Her Majesty's Revenue and Customs (HMRC), expects you to minimise the amount of tax that you pay - within the rule of law of course.

Therefore it makes sense to use the tax exemptions or tax-free products that the Government allows.

Perhaps the most common tax saving I have helped people make is on the tax paid on the interest that they receive from their bank or building society deposits.

The interest paid on our cash accounts is usually paid net of savings tax, which is 20%. This means that for an interest rate quoted at 6% you actually receive 4.8%.

If you are a higher rate taxpayer you have to pay a further 20% tax. If you are a non-tax payer you can reclaim the tax paid, or have your accounts pay interest without tax in the first place.

It is common for couples to pay tax at different rates so the cash accounts should be held in the name of the person who pays the lowest rate of tax. The difference can be significant.

Using a 6% interest rate, for every £1,000 the difference in return for a non-tax payer compared to a higher rate tax payer is £24 in interest a year. For one couple I met recently this meant a potential saving of £7,200 a year.

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Other steps to save tax on your cash deposits include using your Mini Cash ISA allowance and tax free National Savings and Investments (NS&I) products.

Mini Cash ISAs allow you to save up to £3,000 a year with tax-free interest. In the new tax year the plan is for the limit to rise to £3,600 a year.

There are various tax-free NS&I products.

My favourites at the moment are the Index Linked Certificates which pay 1.35% above the rate of inflation, as measured by the RPI. With the RPI being at 4.1% in August, this means a tax-free return of 5.45% which is very attractive for taxpayers. Details can be found at www.nsandi.co.uk.

Everyone aged up to 65 is allowed to earn up to £5,225 a year before they start to pay tax. From age 65 this increases to £7,550 and from 75 increases to £7,690.

This is known as the age related allowance.

However, if you earn more than £20,900 a year, for every £2 above this limit you lose £1 of your age related allowance.

Therefore if your income falls into the "age allowance trap" of being above £20,900 you are losing some of the extra tax allowance.

Solutions to this problem can include those listed above; move some income into tax-free products or into your spouse's name.

If you invest in shares or unit trusts you should always consider using your equity ISA allowance.

If you have not invested in another ISA you can shelter invest up to £7,000 a year.

Investing shares or unit trusts into an equity ISA has two advantages.

The first advantage is that there is no capital gains tax to pay.

This means that you can buy and sell as often as you want without having to worry about tax.

The second advantage is that there is no further tax to pay on any of the income generated by the ISA.

Equity ISAs are no longer completely tax-free since there is a small amount of tax paid on UK shares that cannot be reclaimed. That said, for a higher rate taxpayer the income tax saving is 22.5% over unit trusts or shares.

Some ISA providers charge extra for investing in an ISA if you want to invest in shares. This puts people off using an ISA but you should choose a provider who doesn't charge extra.

One useful trick is to "bed and ISA" your investments.

For example, this is where you transfer £7,000 of your unit trusts from a fully taxable position to an almost tax-free regime every year.

Finally, don't forget pensions.

Virtually everyone under the age of 75 can pay into a pension and get basic rate tax relief on the contributions.

This means that a £1,000 contribution only costs £780. Higher rate taxpayers can claim up to a further 18% or £180.

Even non-tax payers get the tax relief, which means you are getting something back from the Government that you haven't paid in the first place. That can only be a good thing.

This article has only touched on some of the easier ways to save tax.

With that in mind, Hargreaves Lansdown has an Investors Guide To Saving Tax and a new Guide To Saving Inheritance Tax. Please call 0117 317 16390 to request your copy. The tax rates shown are based on the 2007/8 tax year.



Nigel Lennox works for Hargreaves Lansdown Financial Practitioners (Nigel_lennox@hargreaves lansdown.co.uk; tel: 02890 768559 or 0117 317 1690).


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