Donating to charity is not only a great way to display generosity and encourage kindness, but it can also help reduce your tax bill. In the UK, the government incentivises charitable giving by offering tax relief on donations. This guide elucidates various options to comprehend how to claim tax relief on charitable donations when self-employed in the UK.
Consequently, if you make donations to a registered charity, you can be eligible to claim tax back on your donation or take that amount off your taxable income. This relief not only sweetens the deal for donors but significantly increases the value of donations for charities.
Furthermore, understanding how tax relief on charitable donations works is imperative for self-employed individuals who complete a Self-Assessment tax return. Hence, by magnifying your contributions, you can make your charitable attempts more tax-efficient.
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Understanding the types of tax relief eligible for charitable donations:
When a self-employed individual donates money to charity, the immediate result of their kindness is available to them in the form of tax perks. The charity donations benefit both the individual and the charity: while the charity receives more money to spend on noble causes, the donor pockets more money by paying less income tax.
Nevertheless, the amount of claimable tax relief and how it is applied largely is based on how the donation is made. For greater clarity, there are primarily four ways you can consider when assessing how to claim tax relief on charitable donations:
Gift Aid:
A scheme that allows charities to claim an extra 25p for every £1 you donate, at no extra cost to you.
Payroll giving scheme:
When the donations are made directly from your salary before the taxes and other necessary deductions are withheld.
Donating shares, property, or land:
Transferring your property, shares, or land is an immensely tax-saving way to give to charity while reducing Capital Gains and income tax liability.
Ultimately, since each method carries its own tax implications and benefits, we will expound on them individually for you to gain insight into how to claim tax relief on charitable donations when self-employed.
In your will:
Your will specifies what happens to your money, property and possessions after your death. By principle, your donation is deducted from the value of your inheritance before Inheritance Tax is calculated to reduce the tax. To clarify, if you leave 10% or more of your estate to charity, you may also be able to reduce the inheritance tax rate.
How to claim tax relief on charitable donations through the Gift Aid scheme?
Gift Aid is a UK tax incentive aimed at benefiting both charities and taxpayers. Charities can claim tax on your donation, which in turn increases your gift value and trims down your tax bill.
How does a Gift Aid scheme work?
Under the Gift Aid incentive, when you donate money to a registered charity, the charity can reclaim basic-rate tax from HMRC. For instance, for every pound a self-employed individual donates, the charity can claim an extra 25 pence from HMRC, making a £1 donation into £1.25.
The appealing feature of Gift Aid is its simplicity yet immense power to stretch every donation further. Notably, the Gift Aid scheme follows a straightforward process: you give less, yet the charity receives more, with no additional cost to you.
As a result, by donating through Gift Aid, you can not only amplify the effectiveness of your donation but can also foster and promote a culture of generosity and charity.
Nevertheless, you must also take into account one key consideration when signing up for the Gift Aid scheme. Under this scheme, the tax relief goes to the charity, not you. To clarify, your donation is made from your post-tax money.
The charity can then claim back 20% (basic tax rate) of the donation amount before HMRC deducts any taxes. Subsequently, this provides a little extra to the charity from the government. In a nutshell, the Gift Aid scheme is the optimal way to maximise your donations.
How to claim Gift Aid tax relief?
You must adhere to the following steps when learning how to claim tax relief on charitable donations through the Gift Aid incentive:
- Ensure the charity you are donating to is registered with HMRC and eligible for Gift Aid.
- To donate to a charity with Gift Aid, complete a ‘declaration form’ with fundamental information. This information is usually available on your selected charity website. Alternatively, you can ask them for this.
- If you are a higher-rate taxpayer, meaning you fall in the 40% or 45% income tax band, you can claim the difference between the basic rate (20%) and your rate on your Self-Assessment tax return. To go into detail, If you fall within a higher tax band of 40%, you are eligible to reclaim tax on your donation since the charity can only claim up to the 20% tax rate. Thus, the remaining 20% goes into your pocket.
- Similarly, if you are a higher or additional tax-rate payer, you can claim the extra tax relief through your Self-Assessment tax return (if you are self-employed). You can do this when you fill out your tax return by checking the appropriate boxes on the form.
- On the contrary, if you are employed under the PAYE system, you can claim tax relief by contacting HMRC to adjust your tax code. It is noteworthy that HMRC will pay you back this tax relief if you receive your wages under the PAYE system. Otherwise, you must contact HMRC and request an amendment to your tax code.
For a clearer understanding, consider the following example of how the donations work for a higher-rate taxpayer under the Gift Aid scheme:
You donate £100 to charity. The charity uses Gift Aid and claims the basic tax rate relief, making your donation worth £125. Now, since you are a 40% taxpayer, you can claim back 20% of £125 (£25) on your self-assessment tax return.
Further down the line, while a self-employed individual can claim tax relief by making voluntary charity donations, there are other significant ways to cut down your tax bill. Are you wondering how? You can claim tax-deductible expenses and reduce your tax obligations. To this end, you can skim through our comprehensive guides respectively:
How to save taxes as self-employed workers in the UK?
What are allowable expenses for self-employed people in the UK?
Considering how to claim tax relief on charitable donations through payroll giving:
Payroll Giving is another way to consider when learning how to claim tax relief on charitable donations. This scheme allows an employee to donate to charity and secure tax benefits directly from their salary. It is noteworthy that some employers allow employees to donate to charities directly from their wages. Furthermore, donations can be sent directly from pensions.
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How does Payroll giving work?
Under a payroll giving scheme, your donations are taken from your salary before taxes are deducted. While you will still have to pay National Insurance contributions (NICs) on the amount you donate, you will not be obligated to pay any income tax on it.
Moving further, the amount of tax relief you get is based on the rate of tax you pay. It is calculated with reference to the amount you necessarily pay to give £1 in donation. It means the amount you do not have to pay to cover the £1 you donate is directly the income tax you did not have to pay. In line with HMRC’s guidelines, to contribute £1 under the payroll giving scheme, you will pay:
- 80p if you fall within the basic rate tax band.
- 60p if you are a higher-rate taxpayer.
- 55p if you are an additional rate taxpayer.
For more information, you can visit the government’s website:
How to claim payroll giving tax relief?
By following the steps stated below, you can learn how to claim tax relief on charitable donations under the payroll giving scheme:
- Confirm if your employer is registered for Payroll Giving since it is mandatory for your employer to be signed up for a Payroll Giving scheme.
- Next, choose the charity you want to support.
- Authorize your employer to deduct the donation directly from your salary.
- Finally, since your tax relief occurs automatically during your payroll processing, you do not need to claim it separately.
For greater clarity, let’s consider the following example:
You donate £100 per month through Payroll Giving. Now, if you are a basic-rate taxpayer (20%), your donation will only be worth £80. However, if you are a higher-rate taxpayer (40%), your donation only costs you £60 because you receive immediate tax relief at your highest tax rate.
Comprehending how to claim tax relief on charitable donations through transferable assets is an option worth considering. Donating assets can be a tax-efficient way to give to charity, as a self-employed individual is not required to pay tax on transferable assets, such as shares, land, and property. Fortunately, this method allows you to receive relief on both income tax and capital gains tax.
How does it work?
This scheme saves you from paying Capital Gains Tax on assets you have donated to charity. Besides, you can claim income tax relief on the market value of the asset at the time of donating.
How to claim tax relief on asset donations?
You will first transfer ownership of the asset to a registered charity. You must obtain a receipt or confirmation of donation from the charity. Next, to receive income tax relief, deduct the value of your donation from your total taxable income. To achieve this, you will include the amount you are to claim in the ‘Charitable Giving’ section of your self-assessment tax return form.
Accordingly, HMRC will give you a refund or change your tax code so that you pay less income tax for the tax year. In addition, typically, you do not need to pay any capital gains tax on land, property, or shares that you have donated to charity, meaning these assets are exempt from capital gains tax.
In contrast, you may be required to pay capital gains tax if you sell these assets at a price higher than their cost but below their market value. In such a scenario, you must calculate your profit based on the amount the charity gave you for the asset rather than its real value.
For instance, you donate shares worth £10,000 to charity. As a 40% higher rate taxpayer, you can reduce your income tax bill by £4,000n after claiming the tax relief. What is more, you also end up saving on capital gains tax that you would have owed on any increase in the market value of the shares.
How to claim tax relief by donating to charity in your will?
Legacy giving or leaving a donation to a charity in your will is a worthwhile option you can avail yourself of to mitigate the burden of inheritance tax on your estate. It is not just about tax optimisation.
Instead, donating to charity in your will is a commendable way to support the welfare of others even after you die. However, how to claim tax relief on charitable donations through legacy giving or how to qualify for the lower inheritance tax rate is crucial to understand.
Essentially, if you leave your assets as a donation to charity in your will, the value of these donations will either be subtracted from the value of your estate before it is subject to inheritance tax (IHT) or your inheritance tax rate will be reduced if you specify in your will to donate 10% or more of your estate to charity.
Let us elaborate on it further so we can give you more clarity of thought. Leaving a minimum of 10% of your net estate to charity in the UK can reduce the rate of inheritance tax on your remaining estate from 40% to 36%.
As an outcome, it not only enables you to continue lending a helping hand to your favourite charities even after your demise but also significantly reduces the tax burden on your heirs. Hence, you can ensure that more of your legacy goes to the people and causes you value by donating to charity in your will.
Keeping records of charitable donations:
To ensure a smooth tax relief claim process, it is vital to maintain records. It is because they serve as concrete evidence of your donations to charity. These records, which include the following, must be retained for no less than six years:
- Gift Aid declaration forms.
- Bank statements showing donation transactions.
- Receipts or letters from the charity confirming the donation.
- Confirmation of payroll giving deductions (if applicable)
- A certificate or letter from the charity that categorically states the description of donated property or land, date of when the sale or donation took place, and confirmation that the charity has now acquired the land or property.
- A block transfer form containing the evidence of shares transfer from your name into the charity’s name.
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Conclusion:
To summarise, learning how to claim tax relief on charitable donations when self-employed is an altruistic way to support good causes while reducing your tax bill. While a small donation from you can bring about a towering difference to those needing succour, donating through Gift Aid, Payroll Giving, or transferring assets can ensure tax optimisation.
Needless to say, for self-employed individuals, handling tax obligations, from filing self-assessment tax returns to claiming relief on donations, can become mind-boggling when they have other core and higher-value business operations to accomplish.
In this respect, the registered accountants at Accountingfirms can tremendously help with business registration, tax payments, Self-Assessment filing, and claiming tax relief efficiently. With expert consultation and customised solutions, you can focus on growing your business while ensuring your charitable giving is not only tax-efficient but also compliant with HMRC regulations.
Disclaimer: The information provided on AccountingFirms.co.uk is for informational purposes only and should not be considered as financial advice. Always consult with a professional accountant to ensure compliance with UK laws and regulations.