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A Charitable Way to Beat Taxes in the Afterlife: Stuart Trow

May 13, 2022, 4:00 AM

COVID-19 has been a catalyst for change in many aspects of our lives, not least the migration to flexible working, which would have taken many more years without the pandemic’s brutal intervention. It has also changed the landscape for charitable donations. Immediately prior to the outbreak, a little more than half of all donations took the form of notes and coins. By May 2020, this had dropped to just 9%.

Capturing a greater proportion of donations electronically in theory makes it easier for donors and charities alike to benefit from tax relief. Even so, UK charities are missing out on more than 560 million pounds ($700 million) of potential tax relief every year. And many donors are not aware that they could also benefit.

The Gift Aid scheme tops up the value of a donation by applying tax relief at the basic income tax rate of 20%. This is paid automatically if you tick the Gift Aid box on a donation form and provide basic details, such as your name and address. The relief boosts the value of a 100-pound gift to a registered charity to 125 pounds at no additional cost to the donor.

For higher-rate taxpayers, however, that is quite literally only half the story. Since their marginal tax rate is 40% there is a further 25 pounds of relief available (or 31.25 pounds for those in the top tax bracket paying 45%). This extra relief is paid to the donor rather than the charity. Crucially though, payment is not automatic: It must be claimed through your annual Self-Assessment tax return.

It is not clear how many higher-rate taxpayers miss out on this relief. A study conducted for the U.K. governmentin 2009 suggested that only 35% actually claim the extra cash, and there is little reason to believe that the situation has improved since then. This leaves the government pocketing the difference.

The problem is twofold. Most higher-rate taxpayers who earn less than 100,000 pounds a year do not complete a tax return, so miss the most obvious route to reclaim the money. If you donate regularly, however, you can ask the authorities to amend your tax code without completing a tax return.

Even those who do submit a tax return frequently fail to keep a record of their donations. They are possibly unaware that any additional relief is available. So, be sure to keep a record of Gift Aid donations throughout the year, as it can be tricky to collate all the information if there is no paper trail.

There’s another issue with the 100,000-pound earnings threshold that charitable gifts can help mitigate. Above that level, not only are you paying 40% income tax, but your 12,570-pound tax-free personal allowance is withdrawn at the rate of 1 pound for every 2 pounds you earn. Making a charitable donation at that income level not only attracts tax relief, but helps reclaim that allowance. This effectively amounts to 60% tax relief.

A similar effect can be achieved via Payroll Giving, where regular charitable donations are deducted directly from your salary. The relief occurs because your taxable income is reduced. There are two important points to bear in mind, however. First is that the entire tax relief accrues to the donor rather than the charity. Second, unlike pension contributions made by salary sacrifice, there is no saving of the National Insurance payroll tax.

One further means of donating to charity without stretching your budget is to pass on loyalty card cashback and bonus points. All of the major supermarket cards have schemes, and some will even match your donation pound for pound.

As attractive as all these measures are, by far the most efficient means of donating to the charity or charities of your choice is to leave a bequest in your will. When you die, the value of your estate above the various inheritance tax allowances is taxed at a rate of 40%. So, if after a diligent career, your taxable estate amounts to 1,000,000 pounds, your inheritance tax bill would be 400,000 pounds. However, if you bequeath at least 10% of that sum to charity, the applicable rate of IHT drops to 36%.

A 10% gift would amount to 100,000 pounds, leaving the balance of 900,000 pounds to be taxed at 36%, producing a tax bill of 324,000 pounds. Looked at from the perspective of your lucky heirs, they will receive 600,000 pounds if you do not make a charitable bequest, or 576,000 pounds if you do. Thus, with careful planning, leaving a gift of 100,000 pounds to charity would only reduce the after-tax value of an inheritance by 24,000 pounds.

So, instead of being the richest person in the graveyard, you can get the taxman to contribute 76% towards a lasting legacy in your name. What’s not to love about legally cheating the taxman in the afterlife?

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