Even if you love your job, you surely don’t want to do it forever. And if you hate your job, you’ll want to quit as soon as it’s affordable. Either way, financial independence is something we should all be aiming for.
Catch a break
You should also be aiming for maximum independence from the taxman. Despite the Treasury’s fearsome reputation for snaffling people’s wealth, it is willing to give investors a few breaks along the way. It does this to encourage people to save for their future and if you do not take advantage, you will be the loser.
One minor tax break many investors miss is the dividend allowance, which allows you to draw £2,000 of dividends each year (previously £5,000) free of tax. However, the biggie is the individual savings allowance (ISA), which this year allows every UK adult to invest up to £20,000 in stocks and shares or cash, and take their returns free of income tax and capital gains tax.
Thanks a million
The ISA allowance was launched in April 1999, enough time to create millionaires. You could now join the ISA millionaire set in as little as 20 years. You do not have to invest the full £20,000, but even smaller amounts can roll up over the years.
The trick is to build a balanced portfolio of stocks and shares, or investment funds if you prefer, and leave the money to roll up in the years ahead, absolutely free of tax. To get you started, click for a list of the top stocks and funds favoured by ISA millionaires.
Pot luck
We won’t all make a million, but if you did and drew just 4% each year (generally considered the ideal amount to avoid depleting your pot), you would have £40,000 a year totally free of tax, on top of your State Pension. You can pass on your pot tax-free to a spouse or civil partner when you die, although it will ultimately become liable to inheritance tax.
You can also supplement your ISA with a self-invested personal pension (SIPP). This is a hugely flexible plan that allows you to invest in pretty much anything, including shares, cash, bonds and property, with further tax benefits for small business owners.
What a relief
Pension tax breaks come when you pay money in, rather than take it out. Basic rate taxpayers get 20% tax relief, so investing £100 costs £80, while higher rate taxpayers can claim another £20 back through their tax return. Again, your money rolls up free of tax.
You no longer have to buy an annuity with the proceeds, but can withdraw cash from age 55. Remember that withdrawals will be added to your earnings for that year, and subject to income tax. Many tax experts now advise drawing ISA funds first in retirement and leaving pensions invested because they escape inheritance tax. Your beneficiaries pay no tax at all if you die before 75, and income tax thereafter.
These tax breaks complement each other very nicely. Take advantage now, even if you plan to work forever, because one day you may change your mind about that.