How to reduce the impact of the new higher rate income tax

The new tax year is fast approaching, and with it comes a new top rate income tax that will affect everyone fortunate enough to be earning over £150,000. The new upper limit tax rate will be 50% of anything above this amount .

In addition, higher rate on dividends will move from 32.5% to 42.5% of the grossed up income (equivalent to 36.11% of the net dividend) for all taxable income above £150,000.

The changes will become effective from 6 April and as a result, private banks and wealth managers have been advising those to be affected to act now in order to protect their income by all possible means. Many are taking steps to bring forward earnings to this tax year, or planning their finances in an attempt to reduce the impact.

Below are some tips outlined by Which4U that should be considered by higher earners as well as the rest of us:

1. Make full use of all your tax allowances

Many of us complain about how much tax we pay, but fail to take advantage of tax free breaks provided to all individuals by the government. In fact many of us could be missing a trick when it comes to tax relief.

Always ensure you have used up your allowances by the end of each tax year. A popular tax free savings incentive may your first port of call, in the form of individual savings accounts (Isas), offering you a tax free annual allowance of £10,200 (or £7,200 for those under 50 until April 6th) that can be added to your Isa every year, as well as tax-free National Savings & Investments products.

No income tax is required to be paid for any interest or capital gains earned using Isas, so compare Isas by shopping around to find the best Isa rates, or alternatively if you wish to invest in a stocks and shares Isas, you should do some research into the market.

If your spouse does not work or has earnings that fall in a lower tax band, consider transferring investments that provide an income to them. This will now not only appy to spouses on the basic rate tax but also those in the 40% band, if the other spouse currently earns above £150,000 per year.

2. Close your bank account According to advisers at Deloitte

People with savings accounts that pay interest on annually that is due for payment after April should consider closing the account(s) before the new tax rules are applied, as this will allow the interest payment to be subjected to a lower income tax rate. One the new tax year hits in April, you can simply open a new account.

3. Wait until the new tax year to donate to charity

After 6 April, those that will fall in the new high earners category that make donations using the Gift Aid scheme will qualify for a higher tax relief on the donation, which means that more money will reach the charity.

However,consider any potential impact that the charity might have if you delay a regular donations, especially in today's financial climate.

4. Accelerate your income

Some employers have chosen to pay employees their salaries early to avoid the higher tax. It may be worth finding out if this option is possible. This might be easier for those in entrepreneurial or family businesses.

You can also make use of any share options you currently hold, as these will attract income tax so you will pay the lower rate. Anyone that is already getting pension income is able to opt to receive annual payouts as a lump sum before the new rules start.

5. Add more to your pension in the new tax year

Nowadays, pensions have become a less attractive option to those earning £150,000 or more, with tax relief reduced to 20% on some contributions.

However, if you do fall into this category, you will need to act fast. In the new tax year, those in the new higher rate tax band will be entitled to put a minimum of £20,000 and a maximum of £30,000 into their pension, with a 50% tax relief, before the new restrictions become effective in 2011.

Advisers at Deloitte have advised those earning between £100,000 and £113,000 - who will effectively be subjected to 60% tax from April as a result of their personal allowance also being eroded - to add to their pensions.

6. Consider venture capital trusts (VCTs)

Although these start-up investment schemes do carry risk, they are being utilised as an alternative to pension funds for higher earners because contributions attract 30% tax on the way in.

7. Move assets to an offshore bond

Offshore bonds are investment bonds operated by life insurance companies that also have some life insurance attached to them. This means that you can avoid paying any tax until you encash the bond. So in theory, by the time you come to encash the bond, your situation may mean that you qualify for a lower rate of income tax, for example when you're retired - or if you have become an expat or a non-dom. In this case, you may not have to pay any UK tax at all. A number of respected financial advisers are using this approach when advising clients.

8. Move from income investments to Capital Gains Tax

In 2008, the capital gains tax rate was reduced to 18% and investors have since been searching for investments that provide returns that are taxed as capital gains instead of income.

According to advisers, the approaching 50% income tax band has sped-up this switch. In the past year, demand for products such as zero dividend preference shares have risen significantly, as well as funds that work to a total return basis rather than generating income, such as absolute return funds.

9. Consider leaving the country

This may seem like a rather extreme measure, but a number of advisers including those at Cazenove and Schroders Private Bank have said that many clients are seriously considering this option in response to the higher tax demands.

For more great tips check out the Which4U blog - http://blog.which4u.co.uk/ or http://hubpages.com/profile/Which4u