Earning over £100,000? Time to talk tax.
Earning over £100,000 is a phenomenal milestone in your career. If you're employed, this means that you will be required to file a Self Assessment tax return, even if most of your tax is deducted through PAYE and you did not need to file in the past.
What does this mean?
This means that for every £1 you earn above £100,000 you start to lose your Personal Allowance (up to £12,570 for the 2021/2022 tax year). This is sometimes known as the 60% income tax rate.
Why 60%? Well, you will be taxed at the usual 40% income tax rate, but by also losing your Personal Allowance your effective tax rate — the percent of your income that you pay in taxes — becomes 60%, until all your Personal Allowance is used up. For the 2020/2021 tax year this was set to £125,000 and for the 2021/2022 tax year this is set to £125,140.
Don't worry if this doesn't yet make sense to you. We describe a real life scenario here that'll make things clearer.
What can I do to avoid the 60% income tax rate?
By law, you have to pay your tax at the required rate. At Taxd, we want you to maximise your efficiency by paying only what you are absolutely required to.
There are a few ways you can avoid the 60% income tax rate:
- Instead of your pay rise, you can take non-cash employee benefits. This can include: a company car, private health insurance, childcare support, cycle schemes, training courses, or intangible benefits such as buying additional holiday leave.
- You pay into your pension or make donations to charity and claim Gift Aid. This will decrease from your adjusted net income — the total taxable income before any personal allowances and less certain tax reliefs — which is used to calculate your Personal Allowance.
- Look for tax efficient investments — such as Seed Enterprise Investment Scheme (SEIS), Enterprise Investment Scheme (EIS), Venture Capital Trusts (VCTs).
Some companies may offer a larger pay rise once you reach the £100,000 mark to offset the 60% tax rate. We advise you to speak to your employer and see what you can negotiate, so that you're financially better off.
Here's an example...
Let's describe a scenario, which will hopefully make it even clearer for you!
Olivia earns £100,000 from her full-time job. She performed incredibly well in the past 12 months and this week she got a promotion and a £10,000 pay rise.
The extra £10,000 is taxed at the 40% tax rate from the higher rate band, as normal. But for every £2 she earns over £100,000 she also loses £1 of her tax-free Personal Allowance.
At this 2:1 ratio, she loses £5,000 of her Personal Allowance with this £10,000 pay rise. The remaining £5,000 also needs to be taxed at the 40% tax rate from the higher rate band. That's an additional £2,000 Olivia needs to pay in tax.
So, in total, Olivia is taxed £6,000 — that is, £4,000 + £2,000 — on the extra £10,000 she earns. And £6,000 is 60% of the additional £10,000 she now earns.