Budget: A Search for Light in the Budget Gloom
Now we have had 24 hours to digest the content of this Budget, we can begin to see how it can inform our wealth strategies and future planning for clients. After all the hype about pensions, there was little change but it does set a direction of travel. Assuming there is no major political fall out after the EU referendum, we can expect more radical change to move away from pensions towards the Lifetime ISA later in this parliament.
In the medium term, there are two key areas that might drive our thinking. Firstly, what the latest economic forecasts might tell us about the health of the economy. Secondly, the impact of the changes and increasing complexity in the personal taxation system which now sees additional allowances for dividends, interest, property and trading.
Let us look firstly at the economic outlook. In the Autumn Statement, the Chancellor was given more room for manoeuvre by forecasts from the Office of Budget Responsibility which were generally considered optimistic. This time around a downgrade in short term growth forecasts combined with significantly more pessimistic assumptions on longer term productivity have fundamentally altered the outlook. It is difficult to believe that the real economy has changed so much in a three month period. As we know with our own cash flow planning for clients, long term forecasts can set a direction and frame a plan but they are not a promise of absolute outcomes. Yet, boxed in by his own fiscal promises, the Chancellor is forced into reacting to these forecasts with more cuts or tax rises. He has pushed these back to the end of the parliament potentially more in hope than expectation that things will get better.
The EU referendum has the potential to derail any forecasts and will inevitably add to market volatility in the short term. But aside from a major upset there, our central house view remains for a period of low growth and continued low inflation, broadly consistent with the OBR’s latest outlook.
In this low return environment, taxes represent a bigger drag on wealth preservation. And here we can welcome some of the initiatives for encouraging savings and investments. They might not represent big wins for the already wealthy or retired, but certainly offer planning opportunities for the next generation and can also play a key part of generational planning.
The Lifetime ISA clearly sets a path towards ISAs replacing pensions. Much research shows that the public don’t like or trust pensions which they see as remote and complex, whereas the ISA brand is seen as accessible and well liked. If this can encourage greater engagement of young people in planning for their futures, it is a good thing.
The increase in the ISA allowance to £20,000 from April next year is a significant benefit, allowing clients to accumulate significant tax free retirement income and partly offsets the reduction in the pension annual allowance. And finally a reduction in CGT to 20% combined with the dividend and interest allowances can, with good planning, reduce the effective tax rate in retirement. The reduction in CGT may offer opportunities for certain clients to defer prior year gains into EIS and pay at the lower rate on exit from EIS after 3 years.
The only forecast which is certain is that there will be more change. Each tweak to the tax or regulatory system adds cost to the industry which inevitably gets passed on to consumers. But in today’s environment of low returns and complex tax, maximising the use of reliefs and allowances across the family is critical to wealth preservation and income generation in retirement.