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If we want to get to financial freedom as quickly as possible, one of the ways that you can do that is to minimise tax. Firstly, let me begin by saying that tax evasion is illegal, and we all have to pay tax in some form. In this article we're talking about minimising tax through sensible planning that the government's put out there for you to use. What we're talking about here are the tax wrappers that can protect your money and help to boost your tax-efficiency and growth.
How do you deal with the money when it comes in each month to get the biggest bang for your buck? We would recommend creating a simple money management method.
The method we employ is created by setting up a number of different accounts, so that when you get paid or whether you draw the money out of your business, if you run your own company, you could divert it off into different areas that deliver you the best results possible.
So, what are those different areas? The first is a long-term account. A long term account is the money that you're going to use to generate you an income in retirement. Typically, that's going to be a pension, which is essentially most tax efficient way of getting to retirement.
We then also need a medium-term account. A medium-term account is something where you can still get your money working harder for you, but that you can still access, when you need it. For example, you may need to pay for your children’s education or move house.
Next is the savings for specifics account, which might be an account for cars, holidays or home improvements. It might also be an account for any tax or large bills you pay on an annual basis. By diverting a pre-set monthly amount will mean that you don’t overspend and will have enough to achieve what you set out to do.
The first wrapper is a pension. The money you put into a pension can be paid in before you pay any tax, for example through you company scheme or via your employee pension contributions. When you get to 55 or older, you can currently take 25% out as a tax free lump sum, and the remaining 75% you can take out as quickly or slowly as you want, but you do have to pay Income Tax on that percentage, albeit at a time when you are likely to be charged a lower Income Tax rate (as you’re not working).
The next wrapper is an ISA. With an ISA you do have to pay the tax upfront, but when it comes to taking the money out, it's tax free. ISAs offer a really valuable annual allowance, and you've got the flexibility of accessing the money before 55 if you need to.
The third wrapper is an Offshore Bond. With this wrapper you do not pay the tax upfront, and you can draw an income, but tax is deferred until you encash the policy or you die and is charged as Income Tax. There also can sometimes be tax charged on any capital gains you make on the bond, depending on the policy type. Offshore Bonds are slightly more complex than ISAs or pensions, but they can be a good alternative for where people have fully utilised their pension and ISA allowances and have other capital to invest, particularly where they only want to draw out income later on in life.
Finally, there are Venture Capital Trusts (VCTs), Enterprise Investment Schemes (EIS), and Seed Enterprise Investment Schemes (SEIS). These are far more complicated solutions, and are generally only recommended to highly experienced investors, depending on their situation and capacity or risk and loss. With VCTs, EIS and SEIS, you get a tax reclaim when you invest, but you will need to leave your money in the scheme for around five years. The upside of this is that you're not restricted to getting access to your money until you’re 55, and when you take the money out, it's tax free. In addition to that, sometimes these schemes can defer Capital Gains Tax and they can minimise Inheritance Tax. A warning though-these are much higher risk investments that the other wrappers and can be very complicated. You definitely need to get advice on looking at these types of investments, but they can a brilliant tool for the right situation.
The first step in achieving your goals is to discuss your current concerns with one of our qualified Financial Planners.