Should platforms deduct tax on P2P income at source?
At the two Budget Speeches in 2015, peer-to-peer lending was the beneficiary of a pair of great results. In March, the Chancellor announced that interest earned on P2P loans will be eligible for the Personal Savings Allowance (PSA) from 6 April 2016, meaning basic-rate taxpayers will have the first £1,000 of P2P income each year removed from income tax (for higher-rate taxpayers this figure will be £500). And in July, it was revealed that the new Innovative Finance ISA (IFISA) – going live on the same date - will allow lenders to shield returns from tax on annual contributions up to the ISA allowance each year.
It is the first of these two game-changing tax efficiencies which has cast the issue of a withholding tax regime into the spotlight though. Currently, savings income from banks and building societies is paid after the deduction of income tax at source (i.e. by the bank or building society itself). However, peer-to-peer lending platforms are not required to do the same, meaning that it is left to the individual lender to declare their income to HMRC, usually via a Self-Assessment Tax Return.
A potential role reversal?
However, this is set to change from 6 April 2016, as traditional financial institutions will no longer withhold tax from income paid out on savings accounts and deposits, while there is also a consultation underway which could result in peer-to-peer lending platforms becoming obliged to deduct tax on lenders’ P2P income at source.
To HMRC’s credit, the consultations they have published on both the Implementation of the Personal Savings Allowance and the Deduction of Tax from Interest on P2P income are comprehensive, and the imposed deadline for comments of 18 September gives all relevant stakeholders ample time to have their say.
In light of the PSA, few could legitimately object to the burden of tax deduction being lifted from banks. After all, given their low rates of return, a basic-rate taxpayer would need astronomical sums of money in their account before the annual interest they earn exceeds £1,000. Albeit on a lesser scale, the same is true of higher-rate tax payers and their respective threshold too. For banks to deduct tax on individuals’ savings income at source and make payment to HMRC, only to have the money later claimed back on a mass scale would be ludicrously redundant.
Yet the same logic applies to peer-to-peer lending too. Indeed, the rates of return are superior to those of banks and building societies, but the majority of lenders won’t be ‘using up’ their PSA in the course of the financial year either. In fact, at an annualised rate of 5%, a basic-rate taxpaying lender would need more than £20,000 invested in a peer-to-peer platform before they become liable for tax (and this calculation assumes the lender doesn’t have an IFISA!).
For higher-rate taxpayers, this number drops to the still-considerable figure of £10,000, and while additional-rate payers do not qualify for the PSA, it seems safe to assume that they will be very familiar with the whole Self-Assessment Tax Return process and may have a greater awareness and understanding of the relevant tax rules.
So should P2P interest be deducted at source?
Whether interest should have tax deducted at source is currently subject to the following criteria:
- The term of the loan (Yes on certain loans longer than 12 months)
- The identity of the borrower (Borrower required to if it is a company and the lender is an individual)
- The identity of the lender (Always no if the lender is a company)
- The location of the lender (Borrower required to if lender is resident outside the UK)
It’s clear to see that the above is mired in complexity. Such criteria have a semblance of logic to them on a single-loan basis, but become highly impractical when loans involve multiple lenders and borrowers.
Market research suggests that the majority of borrowers from peer-to-peer platforms have a fairly limited understanding of peer-to-peer marketplaces as it is, so to require them to treat interest paid on a P2P loan differently to interest paid on a loan from a traditional financial service provider would create unnecessary confusion. And from a lender’s perspective, you could easily end up in a situation whereby you receive interest differently from different borrowers.
Keep it simple, stupid!
The good news is that one of the proposed changes in chapter 4 of the Consultation on the Deduction of Tax from Savings Income is to apply a blanket approach of removing the obligation to deduct income tax from all non-TDSI interest (which includes peer-to-peer lending). We implore HMRC to select this option, given that many of the taxation issues outlined above would fall away.
True, there would be a risk to the Exchequer that the correct tax is not paid if calculating tax liability is left to the customer. Yet that’s not to say that more onus can’t be placed on platforms to assist customers in determining the correct tax obligation for their personal circumstances – be that providing guides, FAQS and links to relevant tax articles, or even offering personalised guidance by email or telephone.
Most basic-rate taxpayers would receive the correct tax treatment following the implementation of the PSA anyway, while the requirements on higher and additional-rate tax payers would not be affected. Most importantly, understanding that tax is payable on all savings income above the PSA is straightforward, and will be easy to implement.
In order to effectively promote P2P lending to savers and investors, and the important benefits it brings to the wider economy, additional complexities need to be avoided. Since the tax treatment of savings and investments are fairly well documented and understood, proposing a complex tax arrangement for P2P lenders would negatively impact the appeal of our asset class.
To place this administrative burden of tax collection on peer-to-peer platforms for the sake of a minority of lenders who would be liable would serve merely to inhibit the efficiency of a sector raising the bar on this front. The P2P collective, in our view, is better off in the absence of a withholding tax regime.
But these are just our opinions! If you have strong views on the matter, why not get in touch with us by email (firstname.lastname@example.org) or phone (0207 096 8512)? Alternatively, you can contribute to the consultation directly by clicking here.
- Quick guide to paying tax on P2P income
- Your tax-related P2P lending questions answered
- Innovative Finance ISA: the good and the 'bad'
- Your updated guide to Innovative Finance ISAs
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