MANSION TAX CAN BE DONE - UPDATED

UPDATE: In the Budget on 21 March 2012 the Chancellor did not introduce a Mansion Tax. Instead Stamp Duty Land Tax for property sold for more than £2 million was raised from midnight that day to 7%. A 15% rate of SDLT was introduced at once from property bought by 'non-natural persons' and an annual tax will be looked at for property owned by such persons for Budget 2013. 'Non-natural persons' are entities such as trusts and corporations.

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A tax on properties worth more than £2 million is possible.

A number of practical and theoretical problems have been raised. All of them can be dealt with.

That is not to say that a tax on the capital value of domestic property at any particular level is either a good or a bad idea. Nor that implementing would be easy or without causing some hardship.

But this blog shows it is possible to do it if the politicians decide to do so.

How much it would raise is bound to be speculative and would depend on the level at which the tax begins and the rate of tax that is levied above that level. It also depends crucially on how many properties are worth more than the taxable level. Figures seem to be unknown. 

It would also need to apply to any domestic property located in the UK regardless of whether it was owned by an individual, a trust, a company, a charity, a church or any other entity and wherever that owner was located in the world.

I. Valuation

Problem:

It would take years to value all properties with a view to levying such a tax.

Solution:

Make homeowners responsible for valuing their own property unless they had a reasonable belief that any property they owned was not worth, say, 90% of the starting level – which would be £1.8 million for a tax that began at £2 million.

If the value exceeded the limit then the homeowner would have a duty to inform HMRC.

When a property was sold pre or post mortem the tax could be assessed and collected retrospectively at the time of sale or after death from the estate.

In future, the vendor's solicitor would have the obligation of informing HMRC and could collect any tax due to the point of sale. 

Precedent:

Placing the obligation to assess and pay the tax on individuals is nothing new. If a home or second home is sold the vendor has the duty to see if Capital Gains Tax is due and, if so, to let the Revenue know. 

When a property is sold the buyer's solicitor is obliged to assess the stamp duty land tax and pass it to the Revenue.

If someone is paid money of any sort the onus is on them to decide if it is taxable and, if so, to inform the Revenue by 31 October in the following tax year and, if necessary, to complete a self-assessment form.

II. Unable to pay

Problem:

Many individuals who live in homes worth more than £2 million bought them for a great deal less and are now elderly on limited incomes. They may have no money or other assets to sell to pay the tax due each year.

Solution:

The owner could borrow commercially against the value of the property with the debt and interest being paid when they died or sold.

Alternatively the tax could simply accrue as a charge to the state against the property and be paid when it was sold or after the owner's death. It would be up to the Government whether such a scheme charged  interest or was interest free.

Precedent:

A similar scheme is used to recover nursing home fees if they are owed by someone who has a home which is not lived in by a spouse or partner or a relative over 60. If the home is not sold then the local authority will pay the fees and then take a charge against the property. The debt is interest free until shortly after the person dies.

III. Double taxation

Problem:

Homes are bought out of taxed income. Therefore it is wrong to tax the value of the home again.

Solution:

While it is true now that homes are bought out of taxed income, it has not always been so. From 1969 people guying a home on a mortgage could claim tax relief on the interest up to certain limits. It was called MIRAS and was only finally abolished on 6 April 2000. Some steps to phase it out were taken in 1988 but it continued for existing loans until 2000.

Treasury estimates at the time claimed that 11 million homes were being bought under MIRAS. So in fact homes bought up to 2000 on a mortgage were at least partly paid for out of untaxed income. Taxing the capital value would therefore be the first time that much of that money had been taxed.

Precedent:

There are many other occasions when taxes bite twice on the same money. Three examples:- 

Income is taxed and that income is used to buy items including VAT. 

Cash is put into savings accounts out of taxed income and the interest they earn is taxed. 

Inheritance tax applies to a whole estate regardless of how often the money that makes it up has been taxed.

IV. Fairness

Problem:

Many elderly people whose home has been in the family for many years believe that the increase in value is theirs and it is wrong to tax it retrospectively.

Solution:

Many people with what is often called a ‘family home’ have benefited from a huge windfall gain in the value of their property.

Although it is undoubtedly true in most cases that the owner worked hard to pay the mortgage on the original loan. It is also inevitably true that the property is now worth in real terms many times what they paid for it. This windfall gain is entirely unrelated to the merits or not of the owner and the difficulties or not they suffered to acquire that asset. It is largely die to the way the UK economy has functioned over the last 50 years. 

The gain is one they will often not use themselves – and that is particularly true for very large gains. It will normally pass to their children or other heirs. And there is nothing inherently unfair about society taking back a small amount of this windfall gain by way of a capital tax any more than it is wrong to tax inheritance.

Precedent:

Capital Transfer Tax was introduced in 1974 to tax any large transfers of capital and was replaced in 1988 with Inheritance Tax. Both taxes take money from assets which may well have been paid for through hard work and diligence.

In many other parts of the world, including many countries in Europe, property is subject to an annual wealth tax. And in many other countries the value of the home you live in is not exempt from capital gains tax.

EFFECTIVE TAX OF 58%?

The claim by 537 company directors in today’s Telegraph that there is an effective tax rate of 58% on extra earnings over £150,000 is wrong.

Let me explain why.

The letter calls on the Chancellor to end the 50p in the pound additional rate of income tax. The rate “puts wealth creators in a very awkward position” and scrapping it would show that the Chancellor wanted “to celebrate British entrepreneurialism, stimulate industry and contribute to…growth.”

But I was struck by this phrase.

“The tax, which is in effect a 58p tax after national insurance is taken into account”

How did they get to 58p?

A number of tweeps and one firm of accountants came to my aid.

One identified this paragraph in Wikipedia.

“After consideration of employer and employee National Insurance contributions, the effective marginal top rate for 2011-12 is 58%: that is, to pay an employee £1,000 gross costs the employer £1,138 and the employee receives £480 after deductions.” http://en.wikipedia.org/wiki/Taxation_in_the_United_Kingdom

But, like much Wiki-info, it needs care when it is used.

Here is how the Wiki-sum goes.

If an employee earns more than £150,000 then to get another £480 into their pocket you do indeed need to pay him or her £1000. That is subject to 50% tax and 2% NI leaving £480. But the employer also has to pay the employer’s National Insurance which is 13.8% or £138.

So out of a total cost to the employer of £1138 the employee gets just £480. Subtract one from the other and tax of £1138 - £480 = £658 has been paid. So the ‘rate’ of tax is £658 / £1138 = 57.8% which Wiki rounds up to 58%.

But hang on a minute. These are large companies paying full-rate corporation tax on their profits. The whole cost of paying employees – their gross pay and the employer’s National Insurance charge – is deductible from profits.

So in fact the gross cost of paying someone £1000 is reduced by the corporation tax saved. Corporation tax is currently 26% and falls to 25% from 2012/13. The total extra pay bill of £1138 reduces corporation tax by £1138 x 25% = £284.50. So the net cost to the employer is £1138 - £284.50 = £853.50.

The employee gets £480 in their pocket. And the amount that has disappeared in tax is £853.50 - £480 = £373.50. So the tax ‘rate’ is £373.50 / £853.50 = 43.8%, which rounds up to 44% of the total costs.

Assuming the employer makes a profit and pays corporation tax.

And if it doesn’t perhaps it shouldn’t be paying its directors more than £150,000 a year.

FIDDLY BITS

If these guys (and 89% of them ARE guys) are partners then there is no employer’s National Insurance to pay so the effective tax on the extra £1000 is just 52% which they pay. So 58% is simply wrong for partners. And that is the effective marginal tax rate for employees too as far as the employee is concerned.

If they are directors and earning dividends then the extra tax on paying another £1000 in dividends is £361.10 or 36%. There is no national insurance paid by them or the firm. So again 58% is simply wrong.

If the employees are in a final salary scheme then employer’s National Insurance is 10.4% not 13.8% and effective tax is 42%, not 58%.

If the firm is small then corporation tax is 20% not 25%. Effective tax is 46% (contracted out) or 47% (not contracted out) so 58% wrong for them too.

The only occasion when the net tax take from the grossed up pay would be almost 58% is if the person earning over £150,000 is an employee who is not contracted out of state second pension, and the company makes no profit. 

All figures are given at announced 2012/13 rates and may change in the Budget. 

AUTO-ASSIMILATION

Don’t get me wrong. I believe in pensions. But sometimes my faith is tested by the arithmetic.

From October the pensions faith will be spread through our largely agnostic country as almost everyone at work will begin to be enrolled willy nilly into a pension scheme.

Auto-enrolment will start with people working for the biggest employers and by February 2014 will include everyone in a firm of 250 employees or more.

After that it will reach out to assimilate even ‘micro’ firms with fewer than 30 employees by April 2017. A few exceptions will then be mopped up and by February 2018 every UK employer – even with one employee – will have to enrol staff automatically into a pension scheme and pay into it. That will bring pensions to between eight and ten million more than now pay into one.

I have no problem with that. Everyone paying into a pension scheme is a Good Thing.

It’s my faith.

But it is challenged by the arithmetic, especially during this five year ‘staging in’ period.

Throughout that time the compulsory amount paid into the scheme will be 1% of pay by the employer and another 1% of pay by the employee. But that does not make 2% of pay. Because ‘pay’ is only between a lower and upper limit, probably £5,564 and £39,853.

For someone on minimum wage of £12,600 a year the total going into the pension will be just 1.1% of gross pay, barely £140 a year. Even at average earnings of £26,000 contributions will total a miserly 1.6%, a fraction above £400 a year. And that includes the tax relief.

Although joining the pension scheme is compulsory, everyone will have the right to leave at any time. The hope is that contributions will be so low people will barely notice. Even if they do leave they will be re-auto-enrolled every three years or whenever they change jobs.

So inertia will keep most people in the scheme. The Government estimates that between 2 and 4 million will opt out leaving 5 to 8 million newly in a pension scheme.

In October 2017, five years after it begins, ‘staging in’ will be finished and contributions will rise to 2% from the employer and 3% from the employee. A year later they will rise again to 3% employer and 5% employee on the band of earnings. That makes 4.5% of gross pay on minimum wage and 6.3% on average earnings.

Those final amounts paid over a decade or two (or preferably three or four) might buy a half half-decent pension. The average paid into this kind of scheme now is 9.3% and the employer pays the bigger share.

But in the early years when it is well below 2% it will be impossible to say honestly ‘stay in auto-enrolment because it will give you a good pension when you retire’. The amount going in is far too tiny to do that. 

I probably will say ‘don’t opt out because pensions are a Good Thing’. I believe in them. And most of it is paid by your employer and the Chancellor’s tax relief. And you can pay in more. Etc etc.

But when I do I will be ignoring the arithmetic and relying on my faith.

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NOTES

1. People under 22 or over state pension age will not be automatically enrolled nor will those with an income below the trigger point – expected to be £8,105. Anyone over 16 can join and if they earn over £5,564 the employer has to pay in too.

2. The figures are based on the latest proposals from the Government’s Dec 2011 consultation paper. The final figures may differ slightly. Employers and employees can pay in more than the minimum.

3. Average contributions into pension pot schemes are 9.3%, split 6.4% employer and 2.9% employee (Pension Trends Chapter 8, ONS, September 2011 http://www.ons.gov.uk/ons/rel/pensions/pension-trends/chapter-8--pension-contributions--2011-edition-/index.html)

POVERTY LINE

I was on Radio 5 Live today and was shocked when – I’ll call her Jayne – rang from Dorset to say she was a single mum with a 17-year-old son and they were both living on her income support of £67.50 a week. Her child benefit had been taken away, she said, and so had her child tax credit. Her income had fallen from £138 to less than half that.

“What did you eat last night?” asked host Nicky Campbell. “He had beans on toast, I had nothing” she replied.

Jayne is in her fifties and has severe arthritis. She has been unable to find a job herself and gets income support as a disabled person of £67.50 a week. Her Housing Association rent and council tax are paid for her but she has to find £40 a month for her heating and £19 a fortnight for her water bill. That leaves her about £48 a week.

Out of that she now has to keep her son (I’ll call him Jack) as well. A benefit intended for one person now has to feed and clothe two people, one of them a 17-year-old. As Jayne says “He needs a lot of food.”

It didn’t seem right to me. But when I looked into it I found that it was.

Jayne and Jack have fallen into a gap in the system.

Child Benefit - £20.30 a week for the first child – is not paid now for 16 or 17-year-olds who are not in education or training. Child Tax Credit – the full amount is £59.50 a week though Jayne says hers was £55 – stops then too. So when Jack left his course those benefits ended.

If Jack went back to college or into a recognised training scheme they would be restored. But he can’t find a place. So Jayne’s income has fallen by more than £75 a week to less than half its level when Jack was in education.

For a limited time after Jack left college Jayne could have applied for what is called a ‘child benefit extension period’. That can last for up to of 20 weeks and would restore child benefit and child tax credit. She has to apply within three months of him leaving. No-one had told her about it but she is still in time to claim and is now going to do so.

Jack wants to find work. But that is proving very hard for a 17-year-old in his position. And although he is looking for a job he cannot claim Jobseeker’s Allowance until he is 18 at the end of 2012.

He may still get something – if he asks. To do that he must go back to the JobCentre and apply for Jobseeker’s Allowance on grounds of ‘severe hardship’. There is no definition of what that means but the Under-Eighteens Support Team can award it on a discretionary basis.

As he has no income or resources of his own and his only parent lives on a means-tested benefit intended to keep one person he has a chance.

That would give him £53.45 a week. But it will only last a maximum of eight weeks and then he has to ask for it to be renewed. If his Mum’s claim is unsuccessful he may try this route.

One way or the other the family might get a bit more money for a limited time. But well before Jack is 18 both will almost certainly run out. Then single parent Jayne and 17-year-old son Jack will be living on the money the Government says is enough for just one adult.

PEOPLE’S BIG POWER SWITCH

Can thousands of households get together to negotiate a better deal from the energy companies?

Two organisations think they can and are busy signing up thousands of people who hope to save money on their energy bills.

The consumer organisation Which? together with the campaigning group 38degrees – is in the lead with nearly 90,000 signed up on the two sites.

And thepeoplespower, which introduced the idea to the UK, aims to have at least 10,000 names – and hopes for 20,000 – by the end of March.

When the signing up period ends the two not-for-profit groups will go to the major energy suppliers, as well as most of the smaller ones, to negotiate a deal on price. Give us a good price, they will say, and we will bring thousands of customers to you.

Which? says it will operate a reverse auction – starting at, say, 5p per kWh for gas or 15p for electricity. When one firm offers that price Which? will then ask for a lower bid. And carry on until the lowest price is achieved.

That deal will be offered to the people who have signed up – who will be free to accept or reject it individually.

It is too early to say what people might save. Thepeoplespower says it could be £100. But Which? claims that a similar scheme in Holland resulted in 120,000 people switching in 2011 and saving on average more than €300 each.

Signing up costs nothing and you make no commitment. And the bigger the pool Which? and thepeoplespower take to the negotiating table the better the deal they should be able to get.

You can sign up to both or either – or neither of course – at the websites below. Which? and 38 degrees are the same scheme. In a few weeks you will be asked for more details of your current deal. Negotiations should begin in April.

www.thepeoplespower.co.uk

www.whichbigswitch.co.ukor www.38degrees.org.uk/page/s/the-big-switch#petition

I wish these schemes well. But will they work?

1. Will the energy companies play?

The big six energy companies already have millions of customers so even a block of 100,000 may not attract them. They are saying little except they are aware of the plans.

The small energy companies measure their customers in the tens of thousands and most could not cope with an influx which would more than double the number of customers overnight. It could be that Which? goes for the big six and the largest of the smaller firms, leaving thepeoplespower to deal with the smallest ones. It is likely to have signed up thousands rather than tens of thousands and is also looking for at least one supplier to offer green energy deals which some of the smaller ones do.

2. Will Which? or thepeoplespower be able to negotiate a good deal?

The negotiation will depend crucially on offering the energy companies a large number of new customers. But with no commitment from the people who have signed up it will be very hard to predict how many will eventually take up the deal. The final number is likely to be well short of the total who have signed up.

Energy companies are past masters at confusion pricing. Can even good negotiators outsmart them to get a deal which is genuinely better? The big companies offer new customers deals which make a loss and then push up prices later. But they are unlikely to want to do that for tens of thousands of customers at once. So the Which? deal may not be as good as a deal an individual could get.

Comparing the offer with the current deal may be difficult – though Which? says it will do that work for people if they email details of their current energy supplier and bills. How accurately that will work is hard to know at this stage.

3. Who will be helped?

At the moment an email address is essential just to sign up and it may be that the best deal can only be negotiated for online customers who read their own meter and get electronic bills. People who do not have internet access may be left out. The same may be true for those unwilling or unable to make a direct debit commitment.

Which? is trying to negotiate a dual fuel deal and an electricity only deal for those without mains gas. There seems little scope to include those on pre-payment meters, who are often the poorest.

There are already other free ways to save money on energy – switch for the first time, change to direct debit, get free insulation from the energy companies, put on a jumper. Will the negotiated deal be better than those – or work in addition to them?

4. What will be the long-term effect?

Will the new deal set a benchmark for cheaper power? Will it introduce real competition into the market? Will it change energy company attitudes to their customers? Or will it just make a relatively small number of middle-class and middle income people feel, or perhaps even be, better off?

Don’t get me wrong. I hope these schemes do work and do change energy company behaviour. But my job is to ask the questions.

PROMISING THE IMPOSSIBLE

Dear listener

Thank you for your recent email.

I am sorry to hear your investment of £100,000 has fallen in value to £45,000 and that the guarantees you were offered have been withdrawn.

But I am not surprised.

You were trying to do two impossible things.

First, you were trying to invest with no risk that you could lose money. Such schemes are fraught with difficulties and any ‘guarantee’ that losses will be protected can never be relied on.

Second, you were trying to hide your assets from Inheritance Tax. That is difficult to achieve and can never be guaranteed against changes in the law or action by HM Revenue & Customs to render the scheme ineffective.

Schemes which attempt to achieve either of these objectives tend to put your money at more risk and have higher charges than straightforward investments.

Higher charges of course erode the value of your investments more quickly.

Such schemes are widely sold even though the outcomes they offer are extremely difficult to achieve and impossible to guarantee. Of course selling them will make money both for the adviser and the scheme managers even if the objectives are never achieved for the investor.

You may well have a claim for mis-selling against your financial adviser if he or she did not explain the risks clearly at the outset. In addition the marketing material you were given may well have breached the FSA principle which says it has to be ‘clear, fair and not misleading’. Other principles, including treating customers fairly, paying due regard to their interests, and conducting business with due skill, care and diligence, may also have been breached.

You should make a formal complaint to your financial adviser saying that you do not believe you were treated fairly or with due regard for your interests. Set out the promises you understood were being made. If you consider that the information you were given breached the principle of being ‘clear, fair and not misleading’ then say that too. Mention those other principles which, from what you tell me, may also have been breached. Ask to be put back in the position you would have been in if those promises had been fulfilled - in other words you would at least have not lost any money. 

If you did not say specifically that were willing to take a risk with your money – in other words you did not agree that you were happy to lose money as well as make it – then you could also ask to be put back in the position you would have been in now if a risk-free investment had been recommended. Such investments are offered by National Savings and Investments and, for amounts up to £85,000, by any deposit account at a bank or building society.

The adviser has eight weeks to deal with your complaint to your satisfaction. If they do not reply or the reply fails to meet your expectations you can refer the complaint to the Financial Ombudsman Service http://www.financial-ombudsman.org.ukwhich I recommend you do.

best wishes

Paul Lewis

AUCTION BUYERS HAMMERED

If you want to invest in art or antiques the auction house is far more likely to make money than you are. If you buy at auction and then sell your bargain later at another auction you will have to realise a hammer price of more than 50% above what you originally bid before you begin to make a profit.

Here is the arithmetic.

You see a wonderful decorative item in a London auction with an estimate of £700 to £1000. You swear you will not bid more than the top end and when the hammer comes down you are thrilled to be the highest bidder at precisely £1000. You go to pay. The bill is £1300. That is £1000 plus 25% commission (£250) and VAT on the commission of another £50. You pay up.

A year later you have heard that wonderful decorative items like yours have risen by as much as 50% in price. You are proud of your good judgement and send it back to the auction house which catalogues it with a hammer price of £1000 to £1500. You smile at the profit you will make.

At the sale the estimate is right and the hammer does fall at £1500. You are pleased. And excited a month later when the cheque arrives. But when you open the envelope it is for just £1230 – less than you paid a year ago. The statement itemises the costs. Hammer price £1500 less 15% commission which is £225 and VAT on that takes another £45.

So even though the hammer price had risen by 50% in a year, you have made a loss of £70.

At those rates your £1000 object needed a hammer price of £1586 – a rise of nearly 60% – before you would make a profit.

That is why the ‘hammer price’ is called the price the buyer doesn’t pay and the seller doesn’t receive.

Auction houses charge different premiums and commissions, some may be lower others higher. If you sell or buy a very expensive item the percentages may be reduced. And of course a small fraction of the amount you pay, as buyer or seller, will go the Chancellor.

But for most people most of the time it is the auction house that makes the most money, whether you are buying or selling – and especially if you do both.

CHINESE TALES

So I wasn’t surprised at the figures for the record breaking Qianlong reticulated vase, sold for a record £43 million in November 2010, which is apparently still in storage after the wealthy Chinese buyer, named as Wang Jianlin, refused to pay the buyer’s premium.

The hammer price was £43 million. Bainbridge’s, the Ruislip auction house which sold it, charges a flat rate 20% buyer's premium (as a foreign buyer no VAT would be due). That comes to £8.6 million. In addition the seller has to pay commission of 17.5% plus VAT. That would be another £9 million leaving the couple who inherited the vase with £34 million, the auction house with more than £16 million, and the Chancellor with £1.5mn.

Press reports suggest that the seller’s commission was rather lower – around 12% before VAT. In that case the lucky owners should – eventually – get nearly £37 million, Bainbridge’s will trouser nearly £14 million and the Chancellor £1 million. If Mr Jianlin pays up.

http://www.telegraph.co.uk/property/interiorsandshopping/antiques/9075120/Mystery-over-51m-sale-of-Chinese-vase.html

http://www.guardian.co.uk/culture/2011/mar/18/chinese-vase-centre-auction-row