Autumn Budget Update – Steps to fill the big black hole

At a simple level, budgets come down to the relationship between two numbers, firstly how much is the Government going to borrow and secondly, how much tax revenue does it need to raise to pay for it.  This budget was always going to see an increase to both sides of that equation, in the form of higher taxes to fund increased spending. The spending was deemed necessary to stimulate the growth required to get the UK out of a so called ‘black hole’. So, like any investment, over the years ahead if the investment is prudent, we should see improved economic returns in the future in the form of increases in growth.

It is fair to say that the level of spend outlined in the budget, significantly overshot all the forecasts produced by each of our independent economic research desks. For context, ‘significantly’ means nearly double the collective estimate. It is worth reaffirming that extra spending can be a good thing, particularly if it is funnelled into areas that drive growth and therefore improve future tax revenue without having to increase tax rates. It remains to be seen if the Government’s biggest commitment (by14 bn) to invest £22bn into the NHS will solve its obvious structural problems. We all hope for a positive outcome here, but it is fraught with challenges, many of which should have been properly planned out before pouring in many billions.

The reaction of investment markets has initially focused on the additional borrowing required, with bond yields increasing since the Office of Budget Responsibility (OBR) forecasts were announced. The forecasts make rather dire reading, in a sense that on a risk reward basis at least, the investment that the Government is making into the UK economy does not see growth reaching their own inflation forecasts. If that is the case, it is very likely that taxation will need to rise again in the future if our black hole is not to darken further. The chancellor has left herself very little room for manoeuvre.

Investment markets have reacted badly to the news. The FTSE 100 helped by the fall in the value of the pound, though at the time of writing is down nearly 3% and bond yields have spiked to levels that have exceeded those exaggerated levels achieved by the Liz Truss led administration only 24 months ago.

At a portfolio level, the markets view of the UK as a less investable economy post budget than pre, will drag portfolio values slightly. However, if yields remain higher for longer, that also means greater income returns for longer, which is a positive over the medium term. Also, if as we expect, this budget does very little for our economic growth, then holding bonds should prove as beneficial over the next 24 months, as it has over the last 24 months.

From an activity perspective, we are likely to add to bonds next week, once we see the result of the US election, as this might see a further bond sell off, particularly if Trump is to win with a reasonable majority. Volatility is therefore very likely to continue beyond the US election and settle down into December. There will be opportunities that we will look to take, that should support and build our return outlook for the coming years.

From a planning perspective, let’s look at the matters to hand from the budget that may impact your forward planning.

Capital Gains Tax

This was a highly anticipated change, with headline rates increasing from 10% to 18% for basic rate taxpayers, and 20% to 24% for higher and additional rate taxpayers. This is effective immediately. The tax charge here will particularly affect owners of direct shares holdings, and general investment accounts. From a planning perspective, we have taken much of our client gains (within our discretionary fund management range) in advance of the budget so as to crystallise gains at the lower rate of tax. We will be reviewing which tax wrappers  are most appropriate moving forward to ensure clients personal tax exposure’s are optimised in terms of keeping tax as efficient as possible.

Business owners were  hit with reductions in Business Asset Disposal Relief (BADR). Currently, the first £1m of capital gain from business sales (meeting certain criteria) are taxed at 10%. This tax will be stepped up to 14% from 5th April 2025, and 18% in April 2026. This will encourage those who wish to sell their business to do so sooner rather than later. In the meantime corporation and dividend tax was unchanged, with business owners whose profits are above £250,000 paying 25% corporation tax on profits, followed by tax of up to 39.35% for additional and 33.75% for higher rate taxpayers on dividends taken from profits. In addition, the increase in the tax that employers pay to employ people (Employers NI) also went up, meaning there is less incentive for a business to grow profits, expand and   employ more people. As a result, this could see unemployment rise and economic growth slow further, as employers potentially reduce staff numbers to cut costs, or alternatively, it may see inflation rise, as employers attempt to pass these costs onto the consumer. How this plays out will depend on the price elasticity of each business, in other words how easy it would be to increase the cost without reducing sales.

Employers NI

Both the headline rate was increased here, from 13.8% to 15%, and the threshold where employers start paying NI reduced from £9,100 to £5,000 from April 2025.

At the same time, the Government has increased the employment allowance, which will give businesses with National Insurance bills of less than £100,000, a discount of £10,500.

They anticipate 865,000 very small businesses will now not pay any NI at all which is good news, though overall, the expected tax haul from business in terms of the cost to employ the same workforce, will rise by £22bn per annum. To provide context, it now costs £1000pa more to employ an individual on £35,500 pa.

Pensions & Inheritance Tax

From April 2027, pensions will be included in your estate for inheritance tax purposes.

This is a significant change to the inheritance tax backdrop, and will no doubt have implications on how pensions are used within people’s lifetimes. That said, there are some important nuances to what has been proposed, and it is also good that changes to pension legislation take some time to become effective, given there must be a prior consultation period, and therefore, this will give us plenty of time to work with clients to help reduce the impact of this change. In the meantime, tax relief on contributions remains advantageous, tax-free cash remains intact, though, depending on individual circumstances, the order of which clients spend their pension fund will almost certainly need to change within their financial plans. Our advice teams will be providing clarity for you over the months ahead.

Welfare & Pension Increases

The State Pension will increase by 4.1% in 2025/26, in line with earnings growth, meaning over 12 million pensioners will receive up to £470 per annum more.

The National Living Wage will rise by 6.7% from April 2025 for workers aged over 21, from £11.44 per hour to £12.21 per hour. This means the minimum someone can earn when working a 35-hour week will increase from £20,820 to £22,222 per annum.

Similarly, the National Living Wage for people aged 18 to 20 will increase from £8.60 per hour to £10, and for apprentices from £6.40 to £7.55 per hour.

 Business & Agriculture Relief

Inheritance tax relief for qualifying business and agricultural assets will still be in place, though the 0% rate will only apply on the first £1m of value, with a 20% inheritance tax rate due thereafter.

The Government estimates 75% of all estates claiming agricultural property relief will be unaffected, though it will have a significant impact on larger estates and farms.

 Fuel Duty

On a positive note for drivers, the Government decided to hold the 5p reduction in fuel duty into 2025. This was expected to be reversed, increasing petrol costs and therefore further squeezing people’s standards of living. The fact it won’t has a positive impact on the 2025 inflation picture.

 Stamp Duty

The additional rate of Stamp Duty due on the purchases of investment properties will be increased from 3% to 5%, a further clamp down on those with a preference for investment properties.

 School Fees

Finally, as expected, VAT will be payable on private school fees from January 2025. The chancellor also announced she will be removing business rates relief from private schools from April 2025.

 Conclusion

We think the reaction to the budget leaves the Bank of England (BOE) certain to cut interest rates by 0.25% next week. Economic growth has slowed more than the BOE assumed, and CPI inflation undershot its forecast by 0.4% in September. The delay in economic activity in the UK as a result of companies waiting for investment news coming out of the budget, has the purchase managers index (PMI), dropping to a level consistent with 0.8% – 1% annual growth. From these levels of growth, Old Broad St Research have forecast growth rates for the UK economy following this budget of 1.5% – 1.9% each year for the next 5 years, so unless improvement follows quickly, more tax rises look likely if the black hole is to reduce in size.

Happily, our outlook for the UK economy should prove positive for portfolio returns once the volatility passes, and the BOE is forced to cut rates faster than markets are currently pricing. In addition, from a planning perspective, we have a number of ways to help our clients to mitigate much of the potential tax increases, and we will be working hard to build our ideas into your financial plans at your forthcoming review meetings.

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.