Summary:
The freeze on tax thresholds and other Budget changes will affect many separating families. Taking practical steps now - by reviewing assets, updating calculations, and planning for future tax changes - will help ensure maintenance and settlements remain fair and realistic as circumstances evolve.
What’s Happening?
Income Tax Thresholds Frozen Until April 2031:
- Personal Allowance: £12,570
- Higher Rate: £50,270
- Additional Rate: £125,140
These thresholds will not increase with inflation or wage growth until 2031. As a result, more of a person’s income may be taxed at higher rates over time.
Why Does It Matter in Family Law?
- If a client’s income rises, they will move into higher tax bands sooner because the thresholds are fixed.
- More income taxed at 40% or 45% means less net income available for maintenance or living costs.
- This is known as “fiscal drag”—tax bills increase even though the rates haven’t changed.
Impact on Maintenance Calculations
- Current net income may not reflect future reality. A pay rise could push someone into a higher tax band, reducing their disposable income.
- Maintenance agreements based on gross income may become unrealistic as tax burdens grow.
Impact on Settlements
- Spousal maintenance: Future tax burdens should be considered when negotiating long-term support.
- Child maintenance: Changes in net income affect affordability.
- Capital settlements: Clients may need more liquid assets to offset higher tax deductions.
Other Key Changes
- High-Value Homes (£2m+): An extra annual tax now applies to homes valued over £2 million. This may make it more expensive to keep such properties after separation, and some may prefer to sell rather than pay the surcharge…but beware CGT!
- Capital Gains Tax (CGT): Transfers during divorce remain tax-free, but selling property or shares later may result in higher tax. Timing is important.
- Pensions & Savings: From 2029, there’s a cap on tax-efficient pension contributions. The annual ISA limit is also reduced, affecting post-divorce savings options.
- Family Support: The two-child cap on benefits is removed, allowing parents to claim for all children.
Practical Steps for Family Lawyers and Clients
- Review property and business valuations: Assess how the new mansion tax and CGT changes affect the value and affordability of keeping or selling assets.
- Factor in CGT and tax changes when negotiating settlements: Consider whether selling assets sooner could reduce future tax liabilities.
- Update maintenance calculations: Use net income projections that account for fiscal drag, not just current figures. Revisit existing orders to ensure they remain realistic.
- Revisit pensions and savings plans: Check how the new pension contribution cap (from 2029) and reduced ISA limits affect your client’s long-term financial security. Adjust settlement strategies accordingly.
- Encourage tax-efficient planning: Advise clients to make use of available tax shelters, such as pensions and ISAs, to protect their disposable income.
- Build flexibility into maintenance orders: Where possible, include review clauses or mechanisms to adjust payments if tax burdens or incomes change significantly.
- Advise on benefit changes: For clients with larger families, ensure they are aware that the two-child cap on benefits has been removed and review their entitlements.
- Communicate early and often: Keep clients informed about how these changes may affect their settlements and encourage regular financial reviews.