Budget freeze on tax allowances will hit investors but there are some solutions
Thursday 11 Mar 2021 Author: Laith Khalaf

Well, we knew it was coming, and now the chancellor has laid out how he’s going to repair the Treasury’s battered finances in his March budget. One of the key measures is freezing the personal tax-free allowance, and the higher rate threshold, which will mean individuals paying £19 billion over the next five years, and an extra one million people climbing into the higher rate tax bracket.

The allowances will rise next year as planned, to £12,570 and £50,270, but then they will be frozen until 2026. He’s also frozen the inheritance tax (IHT) allowance, the pensions lifetime allowance, and the capital gains tax-exempt (CGT) allowance. The chancellor’s been up front about it, but it’s still a stealth tax, so here are some stealthy ways to fight back against the rising tax tide.

Bed and ISA

This is simply funding an ISA using an existing shareholding, but it allows you to sell an investment up to the £12,300 CGT-free gain limit, and buy it straight back within the ISA. So you keep the same investment, but crystallise some tax-free gains, and protect future gains from dividend tax to boot. If you want to switch out of the investment, you can simply buy a new fund or share in the ISA with the proceeds of the share sale.


If you’re a higher rate taxpayer, or become one soon, a pension contribution is a good way to reduce your tax bill. For each £800 you put in, the government adds £200 to your pension.

Higher rate taxpayers can then also knock a further £200 of their tax bill, which they would normally pay when they complete their tax return. If you contribute to a workplace pension, chances are your employer will get the extra tax relief applied automatically, you won’t have to claim it.

The net effect is you get £1,000 in your pension, and it only costs you £600. Your investment growth and income are then tax-free inside the pension, and you can take 25% of your total pot as a tax-free lump sum at retirement. The remaining income you draw is taxable, but in retirement, you’re likely to be paying a lower overall tax rate than when you’re working. The chancellor did also freeze the pensions Lifetime Allowance at £1,073,100, so if you’re lucky enough to be bumping up against this, you need to think twice before adding more money to your pension.


You don’t get upfront tax relief on a Stocks and Shares ISA, but your investments grow free from capital gains tax (CGT) and income tax. The chancellor has frozen the annual amount of gains you can make each year before paying CGT at £12,300 until 2026.

The Office for Tax Simplification recommended   the chancellor reduce the allowance to between £2,000 and £4,000, and suggested he should raise the CGT rate, so a frozen allowance is probably a good outcome for investors. But it does mean investors potentially paying more tax on their gains, if their investments aren’t held in a tax shelter like   an ISA.

Dividends are also tax-free in an ISA. They are outside an ISA too, but only up to £2,000 a year, which on a portfolio yielding 4% equates to an investment value of £50,000.

Even if you’re not there yet, you could well be in future, so it makes sense to protect yourself from dividend tax by making the most of the ISA wrapper. You can contribute up to £20,000 each tax year. That’s particularly the case now frozen allowances are going to mean more people slipping into the higher rate tax bracket.

A basic rate taxpayer only pays 7.5% tax on dividends above £2,000 annually, but a higher rate taxpayer pays 32.5%, and an additional rate taxpayer pays 38.1%. So there’s a great saving to be had by keeping your dividend stocks tucked up in an ISA.

Buddy up

If you’re married or in a civil partnership, you can transfer assets between you without incurring capital gains, which can allow you to use two lots of the £12,300 capital gains tax allowance if you have a large gain to crystallise. That could potentially save you £2,460 in capital gains tax, if you’re a higher rate taxpayer selling shares.


The freezing of the IHT allowance at £325,000 is expected to cost taxpayers around £1 billion over the next five years. Investing in qualifying AIM companies can be one solution as these aren’t subject to inheritance tax if you hold them for two years or more.

It can be tricky to work out which AIM stocks qualify to be IHT exempt and the smaller companies market can be higher risk but there are managed AIM portfolios out there which could help.


Investors who have used up their ISA and pension allowances might consider VCTs and EIS’s to reduce tax liabilities. These invest in very small, often unquoted companies, so risks are high, and liquidity is low. But they do come with notable tax benefits. A VCT comes with 30% up front tax relief on investment up to £200,000 per tax year, but you must hold the investment for at least five years to keep this benefit. Dividends and growth are tax-free.

With an EIS, you can also get 30% income tax relief, and defer capital gains. An EIS is normally free from Inheritance Tax after being held for two years too. It’s important not to let the tax tail wag the investment dog though. If an investment looks too risky, or unprofitable, it shouldn’t be taken on just because it saves some tax.

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