Don’t get caught by 60% income tax rate

Are you caught up by 60% Income tax rate?

Most UK taxpayers are eligible to a personal allowance, which is £12,570 for 2022–2023, which allows them to pay a part of their income tax free. However, for every additional £2 in income over £100,000 per year, you lose £1 of your personal allowance. For people with income over £125,140, it’s gone completely, and you’re effectively being taxed at up to 60% on your income between £100,000 and £125,140.

The higher rate threshold at which tax is charged at 40% also falls in step with the personal allowance, meaning that not only are you taxed at 40% on the additional £2 of income, you also pay an extra 40% on the £1 of personal allowance lost, resulting in the marginal rate of 60%. This continues up to £125,140 (£100,000 + (£12,570 x 2)), at which point your entire personal allowance has been lost and the marginal Income Tax rate drops back to 40%.

Take John, an individual with a total income of £120,000 in 2022–2023, as an example. He loses £10,000 of his personal allowance (£1 of personal allowance for every £2 of income over £100,000) when he makes £20,000 over the £100,000 threshold, leaving him with only £2,570 of personal allowance.

This £10,000 of extra taxable income (at 40%) means that Jon pays £4,000 more Income Tax on top of the £8,000 due on the £20,000 income in excess of the £100,000 threshold. Therefore, the £12,000 Income Tax as a result of the extra £20,000 income gives an effective tax rate of 60%.

Luckily there are ways to get your personal allowance back. E.g., to make a pension contribution.

How can a higher taxpayer benefit from pension contribution?

If you earn £125,000 and you pay £20,000 into a personal pension:

• HMRC will add tax relief of £5,000 to your contribution
• You will get a further £10,000 back by completing your self-assessment tax return
• That’s a tax saving of £15,000 and £25,000 into your pension.

How can taxpayer benefit from making charitable donations under Gift Aid?

These are treated in a comparable way to pension contributions whereby the basic rate band is extended by 20% of the grossed-up contributions.  

This is just a simplified example for a rest of UK (non-Scottish) taxpayer. Tax rules are complex and can change, the exact benefits will depend on personal circumstances.

We can help you make the most of the tax allowances available so you aren’t caught up by 60% income tax rate and are not paying unnecessary tax.