What investors should know ahead of the Autumn Budget

At its recent conference, the new government has given little away about its plans for the upcoming October budget. Those trying to plan have been forced to rely on rumours and oblique references to ‘tough choices’. Nevertheless, it is clear where change is likely to be targeted, and the potential options open to the government.

Please remember that the value of investments will fluctuate and returns may be less than the amount originally invested. Tax treatment depends on your individual circumstances and tax rules can change. Chelsea does not offer advice and so if you are unsure of anything please contact an expert adviser.

What we know

The Treasury says it needs cash. The new government may be making political capital out of a £22bn ‘black hole’, but it is clear that the UK’s finances are in poor shape. That means some tax raising and cost-cutting measures are necessary. However, the government has said these will not come from the ‘big three’ taxes – VAT, income tax or national insurance. Together, these three taxes bring in 57% of all government revenue*. 

Some measures have already been announced. Private school parents are already counting the cost of the imposition of VAT on school fees from January. The Winter Fuel Allowance has been shelved for most pensioners. There will be continued windfall taxes on the oil and gas giants. However, the fear is that all the talk of black holes is laying the ground for more tax rises elsewhere.

Nevertheless, some pragmatism is required about tax-raising measures. The amount raised from Capital Gains Tax (CGT) has risen significantly since the government cut the rates of CGT. The CGT bill is paid by a tiny number of taxpayers - 41% of CGT came from those who made gains of £5 million or more. If rates go up, they may simply hold onto their assets*. The government needs to balance its enthusiasm for raising the level of a tax paid only by the wealthiest, and actually raising some revenue.

The same is true for inheritance tax. It is only paid by a relatively small part of the population. The government needs to ensure that any changes to the rates paid would actually raise revenues, rather than encouraging investors to take increasingly elaborate steps to avoid it.

Equally, the government needs to balance any tax-raising measures with its growth agenda. Anything that deters investment could reduce financial resilience, and stall funding for British businesses. This would fly in the face of the government’s stated desire to attract more investment for UK companies. Any measures need to preserve support for the UK’s capital markets.

Three potential targets

1. Capital Gains Tax

There have been enough rumours swirling to suggest that some kind of change may be imminent for Capital Gains Tax (CGT). The gap between the rates of CGT versus income tax (24% versus 45%**) seems anachronistic, even if the annual allowance has dropped from £12,300 to £3,000**. However, the Chancellor has a narrow path: she needs to raise revenue, without deterring long-term investment in UK assets.

A straightforward equalisation of CGT and income tax is a possibility, but is unlikely to happen without a sweetener. This may be the reintroduction of indexation. This makes some allowance for inflation, and is designed to encourage longer-term investment over the shorter-term. The Chancellor may also create a standard rate of CGT for all assets, rather than having a higher rate for property. The Chancellor may also be tempted to remove some of the CGT exclusions. Removing the CGT exemption for spouses is a possibility, or the CGT concessions upon death.

2. Inheritance tax

Inheritance tax may also be a target. Paid by only around 4% of households, it has nevertheless raised more and more as higher house prices have taken more people over the tax-free threshold.

The Chancellor may have Business Property Relief (BPR) in her sights. This generous allowance allows certain assets – unlisted shares, private businesses – to be passed on free of tax providing they are held for a certain period of time. Agricultural land also attracts significant tax relief.

The risk is that attacking BPR disincentivises investment in smaller businesses. Inheritance tax portfolios have been a major source of inflows for the AIM market, and it would seem like an own goal for a government prioritising growth to discourage investment in the UK’s growing enterprises.

Another target could be cutting gifting allowances. There are areas, such as the art market, where the gifting rules are particularly generous. She may also look at the nil rate bands - £325,000 per person, plus the residential nil rate band of £175,000 - even though these have been frozen for some years and have not taken into account rising house prices.

There is some acknowledgement that the IHT rules need root-and-branch reform. There have been several proposals. In 2020, the All Party Parliamentary Committee proposed a flat rate IHT charge of 10%, with the abolition of all tax allowances except between spouses and for charities***. The Resolution Foundation proposed abolishing it altogether, replacing it with a lifetime receipts tax, paid by the beneficiary. Everyone would have a lifetime allowance of £125,000^. The adoption of these, more radical, proposals seems unlikely, but may be a longer-term goal.

3. Pensions

Every budget prompts speculation about possible changes to the pension regime. Part of the reason the current pension regime is so complex is that successive governments have chosen to tinker with it.

There is speculation that the level of tax relief on pension contributions will be changed. For example, a flat rate of 25% or 30% could be sold as good news for basic rate taxpayers, and higher and additional rate taxpayers (currently enjoying relief at 40% or 45%) would probably keep saving anyway.

There would be a knock-on effect for defined benefit schemes, which would need to be resolved.

The government has said it will not restore the lifetime allowance. It could plead special measures, but it may not be worth the political fight for the number of people it affects and the tax it would save.

Another option would have been to reduce the level of tax-free cash available at retirement, but the government has been clear that this will stay – “the tax-free lump sum is a permanent feature of the tax system and Labour are not planning to change this.”

Protecting your portfolio

While it is tempting to take extreme measures in response to a potential rise in tax rates, it may prove unnecessary. A reintroduction of indexation, for example, may be good for some investors. As such, we’d just recommend the usual good practice on your investment portfolio:

• Trimming holdings to use the CGT allowance, including exploring ‘bed and Isa’ or ‘bed and Sipp’ offerings.
• Use those tax allowances while they still exist – pension contributions, ISAs, Junior ISAs. There are no excuses for having assets exposed to capital gains tax if you have unused allowances.
• Use your gift allowances for inheritance tax (and encourage parents and grandparents to do likewise!)

*Source: gov.uk, Capital Gains Tax commentary, 1 August 2024
**Source: gov.uk, Capital Gains Tax
***Source: The All-Party Parliamentary Group's IHT reforms rejected: A sigh of relief for rural estates?, 9 December 2021
^Source: Resolution Foundation, 2 May 2018

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the author and fund managers and do not constitute financial advice.