This has been one of the most debated and highly anticipated Budgets in recent times. The Chancellor and the Coalition Government face three tests:

• to communicate the size and scale of the measures necessary to reduce the deficit
• to convince the markets they have a realistic plan to tackle the issue
• and to convince the wider public that the pain is required but will be shared (this last test will be a hard one and it will take time to ascertain the Coalition’s success in getting its message across)

While pre-Budget polling has shown a public acceptance of the need for action it is not clear how this will hold up when local services and benefits are affected.

It is usually said that it takes a few days before the real impact of a Budget can be properly assessed. Given the ambition of this Budget to set a time horizon of up to five years, it may take longer to assess this particular Budget’s impact.  Indeed, the other half of the equation – the spending review of Government departments – will not come until the autumn. In political terms this budget will be the first real test of the Coalition Government.

General

In opening his first Budget speech, the Chancellor told the House that at present £1 in every four spent by government is borrowed. He said there was a need to put in place a “credible plan” for reducing the deficit, describing this as an “unavoidable Budget”. He called for a more balanced economy, one which moves away from an over-reliance on the success of one sector – financial services – to one where industries across all parts of the country grow. The Coalition’s plans to reduce the deficit are currently based on lower spending rather than higher taxes – with the Chancellor working on a 77/23 split between spending cuts and tax rises.

Growth estimates (from new Office of Budget responsibility)

Growth is estimated to be 1.2% this year – lower than the 1.3% forecasted by the OBR last week. The reason for the difference is that the latest figure takes into account the measures announced in the budget. Growth will then be 2.3% next year, and 2.8% in 2012 – thereafter, 2.9%, 2.7% and 2.7%.

Unemployment

The rate of unemployment is predicted to peak this year at 8.1 %. It is then expected to fall to 6.1%.

Debt

There will be a fixed target for debt, ensuring that it falls as a share of GDP each year up to 2015/16. In the structural current deficit should hopefully be in balance at the end of this same period. The OBR expects the Government to hit these figures. The Chancellor said that he expected these targets to be met a year earlier in 2014/15.

Inflation

Consumer price inflation is expected to hit 2.7% at the end of this year and to then decline to target in the medium term. The target will remain at 2%.

Borrowing

Borrowing for this year is forecast to be £149bn. By 2014/15 it is expected to have dropped to £37bn and by the following year 2015/16, it should be £20bn. In terms percentage of GDP borrowing will drop from 10.1% this year to 1.1in 2016.

Government spending

Many Government departments (with the exception of health and international development), will see a cut of 25% to their budgets over the life of the current Parliament. The results of the Comprehensive Spending Review will be published on Wednesday 20th October.

Highlighted elements of the Budget announced 22nd June 2010

CGT rate to increase to 28% but annual exemption remains untouched

An increase to the rate of Capital Gains Tax has been set at 28% but will only apply to trustees and higher rate taxpaying individuals.

Individuals

New capital gains tax measures effective from 23 June 2010 will see a return to a link to income rather than a flat rate charge. The annual exempt amount has escaped any cuts and will remain at £10,100.

The Finance Bill will introduce a new rate of 28% payable by individuals with capital gains in excess of their annual exemption which when added to their income exceed the income tax higher rate threshold (£37,400 – 2010/11). Where the income and capital gains do not exceed the threshold, the existing rate of 18% will apply.  Any gains going across the threshold will pay 18% on the amount of gain below the threshold and 28% above it.

Example

Mr Jones has total income of £38,875 and incurs a capital gain on 22 August 2010 of £30,100 on the disposal of a portfolio of OEICs.(Open ended investment companies)

Total income £38,875                            
Personal allowance £6,475
Taxable income £32,400               

Capital gain £30,100                    
Annual exemption £10,100
Taxable gain £20,000

Gain added as top slice of income
£5000 (£37,400 – £32,400) x 18% = £900
£15,000 (£52,400 – £37,400) x 28% = £4,200
Total CGT payable £5,100

Where an individual has made capital gains in the current tax year but before 23 June 2010 these will continue to be taxed at the flat rate of 18% and are not added to income to determine the rate payable on any further gains made in the tax year.

The new rates will also apply to deferred capital gains, for example, where EIS deferral relief or CGT holdover relief applies and a disposal takes place after 23 June 2010.

Trustees & Personal Representatives

Capital gains for trustees or the legal personal representatives of a deceased’s estate will be taxable at a flat rate of 28% on gain above the annual exempt amount. Gains arising on bare trusts are not taxable upon the trustees but instead are taxed upon the beneficiary and the new rules for individuals will apply.

CGT entrepreneurs’ relief limit extended to £5M

The Government’s pledge to encourage entrepreneurs has seen them extend the lifetime limit on CGT entrepreneurs’ relief from £2M to £5M.

CGT entrepreneurs’ relief is available on the disposal of entrepreneurial businesses, subject to certain conditions, providing an effective rate of CGT of 10% on disposals within a lifetime limit. The Finance Bill will raise the lifetime limit to £5M with effect from 23 June 2010 and simplify the method of providing the relief to a flat 10% on the amount within the lifetime limit. Gains which exceed the lifetime limit will be subject to the new CGT rules and taxed at either 18% or 28%.

Where disposals in excess of the previous £2M limit have been made prior to the 23 June 2010, no additional relief for the excess will be given. However, further disposals can be made after 23 June 2010 to benefit from the additional £3M of lifetime limit now available.  This is excellent news for business owners expecting to sell their businesses.

2011 high earner pension tax rules under review

The Chancellor announced in his emergency budget statement that the complex rules for high earners from 2011 introduced by the Finance Act 2010 will be repealed. The Government will consult on the construction of simpler rules to achieve the same aim of restricting the cost to the public purse of tax relief on pension funding.

Full details will emerge as the consultation progresses.  There is already a suggestion that the main feature of the 2011 changes is likely to be a reduced pension annual allowance in the range of £30,000 to £45,000 a year.

This may not be entirely what was hoped for, but is a change for the better on previous proposals. In particular, it would have the benefits of:

• Reinstating a level playing field for all pension savers
• Maintaining the principle of tax relief at the highest marginal rate on personal contributions
• Adhering to the original ‘pension simplification’ principles by providing a simple, clear yearly allowance for pension savers to use

The consultation will also aim to resolve related practical issues (such as the valuation of defined benefit rights and the treatment of those in special situations such as redundancy) to ensure that the new regime works properly and fairly. 

The changes are likely to be introduced in a Finance (No.2) Act 2010 late this summer.

There will be no changes to the interim pension anti-forestalling regime for the current tax year.

Pensions – requirement to purchase an annuity deferred from age 75 to age 77

The Government’s Coalition Agreement confirmed that the requirement to purchase an annuity at age 75 from a money purchase pension scheme would be abolished. This is planned to be introduced from 2011/12, and in the meantime, the age at which an annuity must be purchased has been increased from 75 to 77 with immediate effect.

The planned abolition of the requirement to purchase an annuity is now set for 2011/12. To help those approaching their 75th birthday, the requirement to purchase an annuity will be put back from age 75 to age 77, so they will be able to benefit from the formal abolition next year. This will be within the Finance Bill(2) 2010 and have effect from 22 June 2010.

Those reaching age 75 on or after 22 June this year, and already in unsecured pension (USP) will be able to continue on the same basis, and not be forced to adopt the alternatively secured pension (ASP) limits. Those with unvested money purchase pensions will still have to crystallise immediately before their 75th birthday, paying out any pension commencement lump sum and the balance will become USP.

In this interim period, before the changes due in 2011/12 arrive, the death benefits for those continuing in USP from age 75 will be the usual 35% on any lump sum paid for deaths after 22 June 2010. The potential IHT that could have applied on death in ASP will also not apply for those reaching age 75 after 22 June.

However, it would appear that the normal ASP income limits and death benefit options (with associated IHT issues) would still apply for those who reached age 75 prior to 22 June and already entered ASP, even if they are still below age 77.

For the formal abolition of the requirement to purchase an annuity in 2011/12, a consultation will be soon launched to look at the issues.

State Pension age increase to 66 to be brought forward

The Government intends to accelerate the increase in the State Pension age to 66 and a review will be launched shortly.

The review is expected to be conducted quickly – there were no suggestions of the timescales for this within the Budget documentation, but the Coalition Agreement suggested that the date State Pension age would start to increase to 66 would not be sooner than 2016 for men and 2020 for women.

The information can be found in the main budget document on the Treasury website, in section 1.109.

Default retirement age of 65 to go

The Chancellor confirmed in his emergency budget statement that the promised consultation on the removal of the statutory retirement age of 65 will take place shortly. The Government’s aim is to phase it out from April 2011.

This change will allow employees of all ages to continue working as long as they are able to meet the demands of their job and thus removing an anomaly in the UK’s anti-age discrimination law.

The consultation is likely to centre on the practical implications of the change for employment terms and pension provision.

Corporation tax rates reduced

The main rate of corporation rate will be  reduced to 27% from 1 April 2011 with further reductions over the next 3 years.

The main corporation rate will reduce by 1% to 27% from 1 April 2011. Further reductions of 1% will take place each year until 1 April 2014 when the main rate will be 24%. For companies with profits below £300,000, the small profits rate of corporation tax will reduce from the current rate of 21% to 20%.  No further reductions in this rate have been announced.

This change may be an incentive to any company that is considering making a pension contribution.  If the company contributes before the 1 April 2011 they will receive an extra 1% of corporation tax relief on their contribution.

U-turn on corresponding deficiency relief changes

The Government has scrapped the planned changes announced in the March Budget to extend deficiency relief to apply to income taxable at the additional rates of tax.

Deficiency relief provides relief for higher rate tax paying individuals who realise a loss on the full surrender on a life assurance policy (such as an investment bond) where the loss is as a result of a previous chargeable gain on part surrender. The March Budget extended the relief to also apply to income taxable at the additional rate and dividend additional rates and also intended to introduce anti-avoidance legislation to limit the relief where the previous chargeable gain was not also subject to the additional rates. These changes were to be effective from 6 April 2010 with the legislation expected in the next Finance Act.

However the new Government did not feel it necessary to extend this relief for additional rate taxpayers and the expected changes will not go ahead. Deficiency relief will continue to apply but will be restricted to the higher rate only.

Disclosure of tax avoidance schemes

The Government will consult over the summer on extending the disclosure of tax avoidance schemes (DOTAS) regime to inheritance tax plans using trusts. Trusts set up before these new plans are put into place are likely to be exempt.

Settlor interested trusts and reclaiming income tax

The budget on 24 March 2010 announced that measures would be introduced requiring the settlor of a settlor interested trust to repay to the trustees any tax which he reclaims from HMRC. Due to lack of time this did not make it in to the first Finance Act 2010 will now be included in the next Finance Bill and will apply to reclaims from 6 April 2010.

Currently, if a trust is settlor interested, the settlor is liable to income tax on any income received by the trustees, regardless of whether income is paid to them. However, the trustees have the primary liability with the settlor taking credit for the tax paid by the trustees. The settlor is then able to make a reclaim from HMRC for any difference between the settlor’s own marginal rate and the tax paid by the trustees. There is no legislation which compels the settlor to pass any tax reclaimed back to the trust and if the settlor chooses to do so it would represent a transfer of value for IHT.

From 6 April 2010, settlors who are able to make a reclaim in this way will be required to pay the reclaimed tax back to the trust. As this is no longer a discretionary payment to the trust it will not be considered a transfer of value for IHT.

ISA limits to be increased by RPI

From 6 April 2011 the annual ISA subscription limits will be increased with reference to RPI on an annual basis.

The current limits of £10,200 of which half can be invested in cash, will be increased from 6 April 2011 with reference to the RPI for September 2010. This will be rounded to a multiple of £120 to allow an easily divisible figure for monthly savers. In future, this procedure will occur on a yearly basis, with ISA limits remaining unchanged in the event that RPI is negative. The cash ISA limit of half the value of the stocks and shares ISA limit will continue.

Personal tax allowance

The personal allowance for 2010/11 remains at £6,475.  However, the basic personal allowance will rise to £7,475 from April 2011, with a commitment to further increases towards the £10,000 target by the end of the present parliament.

Tax bands

The income figure above which higher rate tax becomes payable will be reduced from April 2011.  Thereby, higher rate taxpayers will not benefit from the increase in personal allowances.

National Insurance Contributions (NICs)

As per previous announcements, there will be no increase in employer’s NICs, although employees’ NICs will increase by 1% from April 2011.  The threshold before NICs become payable is to be increased (by an as yet unspecified amount), so that lower paid workers will be better off.

As the upper limit is being reduced to allow 40% income tax to be paid sooner and the upper earnings limit for NI purposes is linked to this, the upper earnings limit will be reduced.  Whether this means that higher paid employees will pay less NI is yet to be seen, but any benefit is likely to be wiped out by extra income tax at 40%.

State Pension

From April 2011, State Pension benefits will be increased each year by at least 2.5%. 

Under a ‘triple lock’ pensions will rise by a minimum of 2.5%, or in line with earnings or prices, whichever is the greatest amount.

Pension contributions

The annual allowance, i.e. the maximum contributions allowed in any year, is currently £255,000.  This will be reduced from April 2011 as part of a simplification of the previous proposals intended to limit higher rate tax relief for contributions.  The Government will discuss the changes with interested parties, but expects that a reformed annual allowance may be in the region of £30,000 to £45,000.

Child Benefits

These are to be frozen for three years.

Child and Working Tax Credits

The Child Tax Credit will increase by £150 above the Consumer Price Index in April 2011.

From April 2011 the following changes will also apply: The baby element of the Child Tax Credit will be removed and the second income threshold for the family element of the Child Tax Credit will reduce from £50,000 to £40,000.  Both withdrawal rates will increase to 41% and the level of in-year rises of income that will be disregarded from calculations of tax credit entitlement will decrease from £25,000 to £10,000.  Also worth noting, from April 2012, the facility to register and claim tax credits from an earlier date will be reduced from the present 3 months to just one month.

Alcohol duties

Previous increases in the duty on cider products have been reversed and all other duties remain unchanged.

Landline Duty

Due to have been effective from 1^st October 2010, this duty to have helped fund the roll-out of Next Generation Access, will no longer be implemented.