Tax Breaks

How tax breaks can still make you money

Headlines in the national press might lead you to believe that all the best tax breaks had been eradicated by H M Revenue & Customs (HMRC). But there are still legitimate ways to use tax breaks to make money.

Everyone can invest up to £7,000 in an Isa this tax year – rising to £7,200 next year – and income and capital growth are tax-free. To maximise these tax breaks, advisors recommend that you invest your Isa allowance in equities because they tend to deliver higher capital growth than cash and bonds over the longer term.

Pensions are one of the most tax-efficient ways of saving, and rules introduced in April last year mean you can now invest an amount equivalent to your annual salary – or up to £225,000, whichever is lower – into a pension. Most people cannot afford to invest this amount but it is a good way to mop up a big bonus or windfall.

The Government gives tax relief on pension contributions – basic rate taxpayers receive 22p for every 78p invested, while those in the higher rate bracket can claim a further 18p through their tax return.

National Savings & Investments' index linked savings certificates are not only tax-free – they also offer protection against inflation and are offering one of the best deals available for higher rate taxpayers.

All children born since September 1st 2002 qualify for a child trust fund (CTF). They each receive a voucher from the Government which has to be invested in a CTF, and the child can access the money when they turn 18.

Parents and grandparents can invest a further £1,200 a year and returns are tax-free.

Enterprise investment schemes (EIS's) and venture capital trusts (VCTs), both invest in small and growing firms and offer tax advantages. With an EIS, you get 20 per cent income tax relief on investments of up to £400,000, and you can defer capital gains tax (CGT) on gains from other investments if you roll them into the scheme.

Capital gains from the EIS are also exempt from tax, and the money falls out of your estate for inheritance tax purposes after two years.

However, EIS's are high risk because they invest in unquoted companies and usually back just a handful of firms. This also makes them potentially difficult to exit from in a hurry.

It is easier to sell your holdings in a VCT because they are listed companies, although to benefit from the tax breaks you must invest for at least five years. VCTs give 30 per cent income tax relief on up to £200,000 a year.

Any dividends from the VCT do not attract higher rate tax and profits are free from CGT. VCTs are still risky because qualifying firms can have no more than 50 members of staff and assets of £7 million.