Feature

posted 4 Feb 2004 in Volume 9 Issue 2

Advising older people on tax

Robin Williamson of the Low Incomes Tax Reform Group (LITRG) gives ECA readers an overview of the work the group has been doing in the past four years to try to make the tax system more friendly for older people on low incomes. He also describes the work of TaxHelp for Older People (TOP) in giving free professional advice to low-income pensioners on tax issues. The LITRG has worked with the Inland Revenue on the latest edition of their booklet on tax for pensioners IR121.

Low-income pensioners and the tax system

It comes as a surprise, even to some tax professionals, to learn that pensioners on incomes of less than £8,000 a year may have to complete eight-page tax returns; or that pensioners whose income is low enough for them to pay tax at the starting rate of ten per cent, or not at all, nevertheless have too much tax deducted from their savings, which is never repaid. The Treasury is enriched by millions of pounds at the expense of the poorest pensioners. How did this sad state of affairs come about?

Throughout the 1970s and early 1980s, inflation in the UK increased exponentially, but personal tax allowances remained static. The effect was that by the mid-1980s, when tax allowances started to be linked to the retail prices index (RPI), a considerable number of people on low incomes had fallen into the tax net. By the late 1990s, the basic tax allowance was less than a fifth of the national average income, two thirds of the national minimum wage (introduced in 1998) for a standard 35-hour week. The real value of personal allowances had eroded to such an extent that the original idea of exempting a slice of income large enough to cover the taxpayer’s most basic living expenses no longer held good. (The national average weekly household income in 1999 was £480, the national minimum wage was £3.60 an hour and the personal tax allowance in 1999-2000 was £4,335.)

The Low Incomes Tax Reform Group (LITRG)

The LITRG was set up in 1998 by the Chartered Institute of Taxation to provide a forum for monitoring the effects of the tax system on people on low incomes.

The founder and chairman of the group, John Andrews OBE, described its mission as follows: “Our aim is to help people on low incomes to cope with the tax system. We do that by challenging the government to simplify the tax rules and by encouraging the Inland Revenue to make their processes and services friendlier to the needs of those on low incomes.”

Our first major research project was into how the tax system impacted upon older people on low incomes. The findings were published in the report, Older People on Low Incomes, the Case for a Friendlier Tax System (CIOT, December 1998 – see www.litrg.org.uk.).

Many of the “new taxpayers” who joined the club during the 1970s and 1980s are pensioners. The taxable UK state pension, when added to other small nest-eggs (for example, a works pension, a deceased spouse’s works pension, or the interest from modest savings in a National Savings bank or building society account) often exceeds even the higher tax allowances given to older people In the current tax year (2003-04) the basic personal allowance is £4,615, the personal allowance for the over-65s is £6,610 and for the over-75s is £6,720.

Pensioners on low incomes form a vulnerable group because most are dealing with their own tax for the first time in their lives. While still employed they could always consult their employer’s payroll department about their tax. After retirement help is no longer available. Many are anxious about dealing with the Inland Revenue. Many too, find the forms either too long to cope with – especially if they suffer indifferent health, or failing eyesight – or simply incomprehensible. Comments have included:

"I too received a self assessment form to fill in. It has been a nightmare to me as I am 85 years of age. I could do without this hassle. When I questioned the Revenue I am sent further forms. I do not understand, I despair of it all, it is a great worry," Pensioner comment;
"Around two-thirds of older tax payers are outside the tax system," ministerial comment.

Self assessment

In our older taxpayers report, we noted that many older people on low incomes had to complete an eight-page, self-assessment return. We questioned why this was so, when self assessment was supposed to apply only to “pensioners with more complex affairs” (SA/BK8 Self Assessment – Your Guide) and the PAYE system was designed to collect the right amount of tax from their pensions without the need for a formal return. The amounts of tax involved can be miniscule, and yet an extraordinary amount of work by both Revenue and taxpayer goes into collecting them.

In response, the Paymaster General Dawn Primarolo MP announced that the amount of untaxed interest a person should receive before being issued a self-assessment form would be raised from £500 a year to £2,500. People all of whose income taxed at source or through PAYE are not generally sent a self-assessment return, unless they want one for some other reason – for instance, they may want to claim a tax refund. The paymaster general’s announcement meant that people with untaxed interest (for example, from National Savings) of £2,500 or less could have their tax collected through PAYE, without the need for a self assessment return, provided they also received income from a PAYE source. This change was a welcome response to our recommendation, but it only went some of the way towards removing low-income pensioners from the system, and left behind some of the poorest – with nothing but a state pension and an untaxed nest-egg.

Four years later, in its eighth report of the 2001-02 Session (HC 681) the House of Commons Treasury Committee examined how the Inland Revenue’s self-assessment systems affected low-income pensioners. That report was a milestone for the LITRG, which gave evidence – both written and oral – to the committee about our findings in this area. In written evidence, the LITRG gave some examples of how pensioners with incomes of only £6,000 to £8,000 a year can be in self assessment. All three cases had chosen to invest in National Savings, which pays interest gross so the tiny amount of tax they owed was not deducted at source, and could not be coded out through the PAYE system. The “wrong sort of investment” had pitch forked these pensioners with two or three modest sources of income into a system designed for those with complicated tax affairs.

In their recommendations, the committee expected the Revenue to make real progress towards taking low-income pensioners out of the tax system, or making it easier for them to assess. They also criticised the lack of transparency of the system – people receiving self-assessment returns are not told why they are issued; and taxpayers who are being taken out of the system are not informed of the fact, causing unnecessary worry and distress.

The committee also encouraged the Revenue to press ahead with the development of a shorter tax return, particularly for those with relatively straightforward affairs.

In response to this, the paymaster general undertook that the Revenue would in future write to taxpayers telling them when they need no longer submit a return. A short (four-page) self-assessment return is being developed by the Revenue, in consultation with the professional bodies including the LITRG, and is being piloted this year with a view to “going live” in 2004-05.

Modest successes, but the evidence shows that too many older people on low incomes still get returns to complete. Inevitable, perhaps, with a system that provides only two ways of collecting tax – PAYE, and self assessment – and where the political will to make the computer mechanisms more flexible is lacking. There are, however, reports of local tax offices using common sense to circumvent the computer, although ostensibly against head office instructions. There have also been heroic efforts by some officials to help pensioners, such as the two Revenue officers who went on a 60-mile round trip to see an 85-year-old lady with cataract and a heart condition to help her complete the forms so that the £5 tax she owed could be collected.

“Tax Back” and “Tax Right”

Income tax is deducted at source from interest on accounts with banks and building societies at a rate of 20 per cent, but savers who are non-taxpayers need to register with their bank or building society in order to receive their interest gross. They are required to complete a form R85 to stop tax being deducted from their savings. When the ten per cent starting rate of tax was introduced in 1999 – ostensibly to help the lower income taxpayer – it meant that the savers among the new breed of ten per cent taxpayers were at once being overcharged tax by at least ten per cent. Because they are obliged to pay some tax, the R85 procedure does not work for them. To get a refund they must get, complete and send in a form R40, which many do not bother to do either because they are unaware of it, or because they find the form filling too stressful and burdensome. Thus, the system causes the savings of people on low incomes to be taxed by default in cases where either they are due to pay much less tax, or no tax at all.

Over the years, we have worked with the Revenue to try to find a solution to the problem that many people are owed money by the Exchequer. The Revenue, on our recommendation and that of the House of Commons Treasury Committee (6th Report of the 1998-99 Session, HC 746), ran a campaign in 2000, “Tax Back”, highlighting these aspects of the system. Unfortunately, though, the banks – whom the Revenue use as their agents to distribute the necessary forms – rarely take the initiative in telling their non-taxpaying customers about the procedure, and if asked either do not stock the form, or produce an out-of-date version. The amount of tax overpaid as a result runs into millions of pounds.

Some progress on retirement annuities

In our Older Taxpayers Report, we questioned why pension income from retirement annuity contracts (RACs) are taxed at source under Schedule D at the basic rate of tax, leaving pensioners to reclaim any excess tax by completing yet another form (the R89). It should not be a problem for most insurance companies to operate PAYE on RACs, when most forms of UK pension income are subject to PAYE, and we believe this should be mandatory for retirement annuities. The recipient finds it confusing to have personal pensions and retirement annuities from the same insurance company, and the only difference is the small print on their statements.

Here we can report a modest success. The Inland Revenue’s consultative paper on pensions reform: Simplifying the taxation of pensions, December 2002, at para B57 sets out the government’s intention that as part of the reforms, “pensions paid from RACs will be taxed as income under Schedule E” (now more properly referred to as “PAYE income” after the Income Tax (Earnings and Pensions) Act (ITEPA) 2003). But this will not happen until 2004-05 at the earliest, and probably not until 2005-06.

The human rights angle

The Revenue authorities in the UK, supported by their political masters, have been making much of the “ethical dimension” of tax to dissuade people from engaging in legal forms of tax avoidance. There is another side to the coin. The practice of deducting more tax from the savings of low earners than they are liable to pay, with the intention of repaying it eventually if (and only if) they ask for it, may itself be regarded as ethically questionable. The LITRG has now widened its concerns to all cases where people on low incomes suffer excessive withholding of tax at source, whether from interest on savings, through the pay as you earn (PAYE) system, or by any other means. We have given this campaign the sobriquet of “Tax Right” as distinct from “Tax Back”; the government should use the mechanisms at its disposal to get people’s tax withholding right first time. The European Convention on Human Rights incorporated into the UK by the Human Rights Act 1998 protects the right of the citizen not to be deprived of his or her property First Protocol, art. 1 subject to “the right of a State to enforce such laws as it deems necessary . . . to secure the payment of taxes”. But is it “necessary” for a State to withhold more tax than it is due? Does excessive withholding of tax in the circumstances described here breach that fundamental right? Does it lean too far towards protecting the revenue due to the state, to the detriment of the rights of the citizen?

Whatever one may think about the human rights question, it must now surely be possible for the 50-year-old PAYE system to be upgraded to enable the right amount of tax to be deducted first time from low-income pensioners? Their affairs cannot be so complicated as to defeat the ingenuity of a system that operates relatively smoothly for approximately 20-million employees throughout the UK.

Gift aid

Another of our long-running campaigns tries to remove an unnecessary obstacle, which the gift-aid scheme places in the way of low-income pensioners’ charitable giving. An absurd situation whereby a scheme designed to encourage charitable giving in fact discourages such giving by one of the more generous sectors of society seems due, yet again, to the inflexibility of government systems.

Most gift-aid declaration forms carry a warning, to the effect that the scheme is unsuitable for non-taxpayers. The essence of the scheme is that the donor can make gifts to charities while deducting and retaining tax at the basic rate on the amount of the gift, then the charity claims back the tax. But the legislation Finance Act (FA) 1990, s. 25(6) provides that the donor has actually to suffer the tax before the charity can claim it back. If a non-taxpayer signs a gift-aid form, and the charity claims back the “tax”, which the donor has not paid, then – at law – the donor is liable for that amount of tax FA 1990, s. 25(7). But a non-taxpayer may very well not notice the small print, and sign the declaration put before them, quite unsuspecting that the Revenue will probably send them a bill for the tax that the charity has reclaimed.

The matter was debated at the instance of the LITRG last year, in Finance Bill Committee (Hansard, Standing Committee F, 13 June 2002, col 394-405) where Roger Casale MP and Edward Davey MP made eloquent attempts to have the law changed. Their efforts met with a rebuff, as is often the lot of backbench and opposition MPs on committees; but not before the minister (John Healey MP) had made at least one very practical point in reply: “In practice, where the Inland Revenue finds out that a non-taxpayer’s donation has been included in a gift aid claim from a charity, it invites the charity to make good the shortfall rather than pursuing the individual taxpayer.” That this is Revenue policy may still be news to many local tax offices.

The obstacle, in this case, seems to be a question of public accounting rules. According to the Office for National Statistics (ONS), if non-taxpayers were able to make gifts under the gift aid scheme, then the whole scheme would have to be classified as public expenditure rather than tax relief, because there is no provision for the two elements to be split. We have pointed out that there are other schemes – notably tax credits – in which the elements of tax relief and public expenditure are mixed, and the ONS has agreed to reconsider the position with gift aid. But until it does, the law cannot be changed to accommodate non-taxpayers within gift aid.

In the meantime, best advice to charities is to draw their donor’s attention to the requirement to pay tax at least equal to the tax on their gift; and to remind them periodically that if their circumstances should change, they should contact the charity so that it no longer reclaimed tax on their donation.

Rationalising the tax system for pensioners

We have enjoyed some small successes over the years. The raising of the untaxed interest threshold for entry into self assessment from £500 to £2,500 has already been noted, as have the Tax Back campaign in 2000, the piloting of the short tax return in 2003, and the bringing of retirement annuities within PAYE.

In 1999, the chancellor began to announce the older person’s tax allowances in the pre-Budget report, rather than waiting until the spring Budget to do so. When in the late 1990s the primary threshold for National Insurance Contributions was being brought into line with the income tax personal allowance, it was convenient to announce both simultaneously; and since NIC rates and thresholds had always been announced in the autumn before the start of the new tax year, the personal allowance was also made known at that time. However, those entitled to the age allowance had to wait; which caused more unnecessary paperwork, as PAYE coding notices had to be issued twice, once in February showing the old rate of allowance, and again in March or April following the Budget announcements. We made strong representations that the age allowances should be announced in the autumn along with the personal allowance, and in 1999 persistence paid off.

The same policy was finally applied to the blind person’s allowance in November 2002, again after lobbying by LITRG and others.

PAYE notices of coding

Notices of coding issued under the PAYE system are a perennial source of frustration. Poorer pensioners typically have a state retirement pension, two or three small occupational pensions, and income from savings. Tax is generally deducted under PAYE from at least one of the occupational pensions (although not, as we have seen, always from retirement annuities). But the system is erratic and does not always produce the right result. The problem of multiple pensions is compounded by the fact that in the first year that they receive their state pension, the system enters the amount of a whole year’s pension, regardless of the fact that few people’s birthday falls on 6 April. The Revenue remind taxpayers to check their coding notice carefully; but the sheer impenetrability of the form makes this difficult for the average lay person.

Another problem with the coding system is that once erroneous data has been entered (often manually), the mistake is perpetuated year after year until corrected by manual intervention. Recently, a spate of coding notices have been spotted incorporating the married couple’s allowance (MCA), which is still available where either spouse was born before 6 April 1935, without the ten per cent restriction imposed by ICTA 1988, s. 256(2). Thus, a tax reduction of £5,565 (or £5,635 for the over 75s) is given instead of £556 or £563. Inevitably, an underpayment of tax will build up year by year unless corrected, either by Revenue action, or in the remote likelihood of the taxpayer noticing the mistake.

Coding notices are by far the most frequent problem seen by the professional tax advisers who, under the aegis of TaxHelp for Older People (TOP), give free help and advice to low-income pensioners in the certain parts of the country.

TaxHelp for Older People (TOP)

This scheme, under which tax professionals volunteer their time and expertise to help older people on household incomes of up to £15,000 a year with their tax, has been running for more than two years in the counties of the South West and in the West Midlands. It is now expanding to Harrow and Edinburgh. TOP is run in conjunction with local charities, notably Age Concern who provide premises and, in some locations, administrative facilities. It is generously funded by the Chartered Institute of Taxation, the Association of Taxation Technicians and the Inland Revenue, and supported by other professional bodies, notably the Institute of Chartered Accountants in England and Wales. Help is given face to face, or infrequently by telephone.

The TOP scheme is modelled on similar volunteering initiatives (some of which are government-sponsored) in the USA and Canada. As well as relieving the worries, and the finances, of many hundreds of older people who come to the advice sessions, the experiences of the TOP volunteers is the basis of many of LITRG’s policy recommendations. In addition, the volunteers sometimes unearth malfunctioning parts of the Revenue machinery which LITRG then brings to the department’s attention.

The coding notices referred to above, which show the unrestricted married couple’s allowances, are a good example of this.

Not all TOP cases can offer the professional the chance to reclaim hundreds of pounds of overpaid tax, or save the client from paying hundreds of pounds of tax underpaid due to Revenue error. But most advice sessions will involve helping someone with completing a form R40, advising on an R85, or explaining in everyday language the nature of the MCA restriction, or why the pensioner is no longer receiving self- assessment returns. Almost every session involves checking a coding notice. In virtually all cases, the client is reassured just to have their tax checked by an independent expert, and their tax position explained to them in ordinary English.

If you have the skills to advise on personal tax, and would like to volunteer, don’t be put off if you don’t happen to live in the South West, West Midlands, North West London or the Lothians. If you would like to spend a few hours every quarter helping pensioners through the tax maze, get in touch with Paddy Millard (TOP director) on tel. 01308 898300 or e-mail paddymillard@aol.com for more information. He will find a way for you to help out. Robin Williamson is a solicitor and technical director of the Low Incomes Tax Reform Group. He can be contacted on 01732 779124, or by e-mail at robin@radcliffe15.freeserve.co.uk.