How dentists can avoid paying 66% tax in 2010/2011

With the 50% tax on higher earners, a significant number of dentists are either in this category (£130,000 plus pa) or aspiring to be, and therefore need as much information as possible to reduce their tax bills.

In this article we'll cover all the tax saving opportunities you should be looking at, from the obvious, such as employing your spouse and ISAs to the more esoteric, such as offshore planning, VCTs and EISs.

VCTs

Venture Capital Trusts (VCTs) are similar to investment trusts and one often used as a way of reducing tax liabilities. They’re listed on the London Stock Exchange but invest in small, higher-risk trading companies who are not listed on a recognised stock exchange. VCTs employ less than 50 people and no more than £7m in assets; they can only receive £2m in funding per annum. There are four varieties of trust:

• AIM trusts invest only in companies whose shares are listed on the Alternative Investment Market
• Specialist trusts focus on firms in specific industries such as the technology sector or the music business
• Private equity trusts take stakes only in unlisted companies
• Generalist VCTs are free to invest in any type of qualifying company

The risk aspect of companies in their early stages of development might not appeal, so an increasingly popular alternative is VCTs that focus on relatively large asset backing and so have potentially less risk.

The HM Revenue and Customs have a list of approved VCTs that may entitle you to various tax reliefs, but it is important to remember that their approval is not a guarantee of the safety or success of the investments made. However, despite the risks, none of the VCTs launched since 1995 have gone under, although some launched around 2001 to buy into technology companies haven’t fared so well.

An investor can get income tax relief at the rate of 30% for a year if shares in VCTs for which have been subscribed (up to a maximum of £200,000) are issued to you in the year, giving a maximum rebate of £60,000. It is important to remember that this is a tax rebate. If you sell within five years of buying, you must pay all the tax back. It’s also worth remembering that you are protected from capital gains tax whenever you sell; dividends and distributions are tax free.

Enterprise Investment Scheme (EIS)

Similar to VCTs, investors can gain attractive tax breaks from an EIS, as long as you’re prepared to make a long-term commitment and are aware there is still an element of risk involved. Even though there might be relief from income, capital gains and inheritance tax now, it is worth remembering that tax rules can and do change. There are a number of new schemes that take advantage of the 18% rate of capital gains tax and those which invest in lower-risk companies than the usual EIS schemes.

Offshore investing

An offshore portfolio bond is an investment wrapper used by investors to help with tax planning. Investing overseas can bring advantages to UK residents and offshore portfolio bonds are usually based in a number of different jurisdictions, including the Channel Islands, Isle of Man and Eire.
When bonds are held in the UK, income is paid net of tax. The benefit of an offshore portfolio bond is that this wrapper defers investment tax until you cash it in; the income can be rolled up gross over a number of years. The fund only becomes liable to tax when the holder brings the money back to the UK.

Offshore savings

Most of the big high street banks, as well as private banks, have subsidiaries that offer offshore accounts, including Northern Rock, Nationwide and the Yorkshire Building Society. Usually the minimum deposit is between £5,000 and £10,000, with anyone being eligible to open such an account. It is important to remember that the UK Financial Services Compensation Scheme does not cover offshore institutions. Some banks and building societies have pledged to cover any liabilities that their offshore subsidiaries cannot meet, but not all of them have made such a commitment.

Offshore trusts offer a good way of reducing inheritance tax liability. Money put in trust will enjoy the benefit of compound interest to help the fund grow. When tax is payable, it will be at the basic rate, so long as the beneficiary is not a higher-rate taxpayer. As long as the donor has lived for seven years after setting up the trust, the money is free from inheritance tax, so this is a good idea for helping children or grandchildren.

ISAs

From April 2010 the rules governing ISAs will change. For cash ISAs, the maximum that can be saved will be £5,100 per year. With an investment ISA account, the ceiling will be raised to £10,200 per annum can be saved, of which 50% can be in cash. Since the personal allowance for capital gains tax is £10,200, an individual can make a healthy profit up to this amount without paying any tax.

The trick is to pick funds and / or individual shares and bonds that will deliver high returns for the lowest risk, with low charges. Seek the advice of an Independent Financial Adviser to ensure you make the right choice.

Employing a spouse

Transferring part of your income to your spouse is worth considering as a way of reducing the tax burden. There are important steps to take.

A commercially justifiable wage needs to be paid, and minimum wage regulations are likely to apply. Keep clear records of not only the work the spouse does for the practice, but also the payments, ideally into a separate bank account in the spouse’s name. An employment contract is also a legal requirement. A salary between £110 and £884 per week is subject to employees’ national insurance at 11% and employers’ national insurance at 12.8%.

With expert advice, dental professionals can ensure their tax burden is efficiently managed.