High income child benefit charge

At a time in life when every penny counts and often when part of the household income may drop or disappear, Child Benefit is a very welcome source of income to assist purchasing those nappies and baby grows!

By James McIntyre, consultant, Taylor Patterson.

However, if someone in the household has an adjusted net income of more than £50,000, the Child Benefit charge applies. This legislation has been in force since January 2013.

What is the charge?

For those with adjusted net income between £50,000 and £60,000, the individual in question would be charged 1% of the total benefit for every £100 of income over £50,000. Therefore, when income reaches £60,000, the Child Benefit charge is equivalent to the amount of Child Benefit that has been received; Child Benefit is effectively wiped out. The charge is applied to the partner with the highest adjusted net income and is made regardless of who is in receipt of the Child Benefit.

What does adjusted net income mean?

Unfortunately, the word ‘net’ does not refer to income received net of income tax. Adjusted net income comprises of all taxable income, including earned income, dividends, rental income and gains on certain investment types.

How is the charge applied?

The Child Benefit charge is paid for via self-assessment or PAYE and therefore it is wise to seek tax advice from a professional such as an accountant.

The individual in receipt of the Child Benefit could opt out of receiving this benefit to ensure that the charge is not applied. However, this may be detrimental as National Insurance Credits, which build up entitlement to the State Pension, may be lost.

Can I mitigate against the potential Child Benefit charge?

The first thing to do is to identify whether the household is going to be penalised by the Child Benefit charge. If it is identified that this is likely, then there are potentially ways to mitigate/eliminate this charge.

Example of how this could be achieved

Let’s take the example of a household with one child, one parent earning annual adjusted net income of £55,000 and a second parent earning £20.70 a week in Child Benefit (£1,076.40 pa.) As it stands, the Child Benefit charge that would apply is (1 multiplied by (£5000/£100)) percent i.e. 50% of the Child Benefit. Therefore, the annual charge would be £538.20.

If charitable donations of £1,000 (including the gift aid) are made throughout the tax year, this would reduce the adjusted net income down to £54,000.

Should £1,000 of the income derive from share dividends, these shares could be sold (subject to a review of other tax consequences) and replaced with a ‘none-income producing bond’ such as an Investment Bond.

Finally, in order to fully mitigate against the effects of the Child Benefit charge in this example, a £2,400 net (£3,000 gross i.e. after tax relief is applied) pension contribution in to a “relief at source” pension, would reduce the overall annual adjusted net income down by a further £3,000. An additional benefit of this being that a further 20% (£600 in this example) can be reclaimed via self-assessment because pension contributions receive tax relief at an individual’s marginal rate of income tax; in this case 40% overall.

In this example, what was originally a £55,000 adjusted net income is reduced to £50,000 resulting in a situation whereby the Child Benefit charge would no longer apply.

Another method of reducing adjusted net income is via the purchase of additional holiday through an employer; a fringe benefit being that the individual gets to spend more time with their family too! Additionally, the purchase of child care vouchers are another method of reducing adjusted net income for Child Benefit tax charge mitigation purposes.

Summary

It is important to identify whether the Child Tax charge would apply. If so, there are a number of ways to potentially mitigate against this charge. It is also worthwhile re-iterating that it is important to ensure that National Insurance Credits are not compromised if an individual were to opt out of receiving Child Benefit.