EVEN before the Minister for Finance rose to his feet yesterday, your home mortgage was probably destined to cost you more from this. April. Indeed, the cost will rise further from April, 1997. But why, by how much and is it worse that you had anticipated?
Well, for top rate taxpayers, mortgage interest relief has been reducing since April 1994, as a result of changes introduced in the 1994 Budget. Previously, relief for interest was available at 48 per cent but this is being reduced to the standard tax rate on a phased basis over four years. With effect from April 1997, relief will only be available at 27 per cent.
As PAYE workers get relief for mortgage interest in their tax free allowances, the net effect is that their take-home pay is reduced to reflect the cut in the tax relief. For example (see Table l), the additional annual tax cost as a result of the reduction in the tax relief on a typical £30,000 mortgage is around £90 from April. More significantly, perhaps, over the four-year transition period the tax cost is just under £480.
In after tax terms, therefore, if you are a 48 per cent taxpayer your mortgage will cost you more.
So, what if you currently pay tax at the standard rate of 27 per cent, do the changes impact on you?
Not directly perhaps, but there is a real possibility that you could be accumulating tax arrears of which you are not aware and for which no provision has been made. This could leave you facing an unexpected and unwelcome tax bill.
Take the example of a married couple on a joint income of £28,000 with the basic tax allowances and who are paying interest of £5,000 on their first mortgage. One might reasonably assume that their taxable income, after all allowances, was below the 48 per cent threshold of £17,800 for 1995/96.
However, under the new rules, their taxable income is actually £2,500 more than they might anticipate. As a result, part of their income is actually taxable at 48 per cent instead of 27 per cent.
In the above example this would give rise to an additional tax liability of £370 in the current tax year, over and above what they might be expecting. This liability could increase to £389 for next year.
The problem arises as a consequence of a quirk in the manner in which the tax relief is now allowed. What happens is that only part of the interest relief (50 per cent in 1995/96 and 25 per cent in 1996/97) is now available as a tax deduction in calculating your taxable income and thus your tax rate. The remainder is effectively allowed as a tax credit but only at 27 per cent.
In practice, therefore, the effect of granting an increasing part of the relief as a credit, instead of as a deduction, is to push some individuals into the 48 per cent tax bracket earlier than they might otherwise have anticipated resulting in a tax underpayment.
As can be seen, therefore, the 27 per cent taxpayer may indeed be affected by the changes in the interest relief. Will these changes impact on you? Well, yes, if your income is such that you are only marginally below the 48 per cent tax bracket.
If you consider an individual with just the basic tax allowances and claiming the maximum mortgage interest as a first time buyer, the income ranges which are likely to trigger this additional tax liability would be £26,240 to £28,740 for a married couple or £13,590 to £14,840 for a single individual.
The accompanying table (Table 2) illustrates the potential additional tax liability accumulating in the current tax year. The actual amount will vary depending on the level of income, the tax allowances available and the interest payable.
Looking at the case of a married couple on their first mortgage with maximum interest relief of £5,000, the potential tax liability is £525. This could rise to £544 next year. Overall, not an insignificant amount.
In order to avoid a build up of unexpected tax arrears in this situation, it would be advisable to recheck your tax free allowance certificate. If you have included the full qualifying interest in determining your tax rate at 27 per cent, then you may need to take corrective action. In this event you might wish to contact the inspector with a correct estimate of your total income and allowances so as to have the certificate revised.
Following on from the above, in determining your tax table for this year you should note to exclude 50 per cent (75 per cent in 1996/97) of the interest relief to which you would otherwise be entitled. (See also the tax calculation table on the back page of this supplement.) You might also wish to note that the tax relief for medical insurance premiums (eg VHI) and the rent allowance for individuals under 55 years are now granted on a similar basis to mortgage interest, thus the problem outlined earlier for standard rate taxpayers is further compounded.
Remember, you will still have to pay the additional tax cost, but at least it will not come as an unwelcome bill at the end of the tax year.
The 1994 policy move towards `standard rating' certain discretionary tax reliefs follows similar trends in Britain in recent years, though the British personal tax rates are significantly lower than those in Ireland as many an Irish employer can confirm.
The savings to the Exchequer generated by the move towards standard rating were broadly intended to at least part-fund a widening of the standard tax band. Provided there is a general reduction in the overall effective rate of tax and a widening of the standard tax band, the policy of standard rating certain tax allowances would not be unwelcome.