Congratulations on your increased earnings! It might be a promotion, a hefty commission, a bonus, or the result of long work hours. But with higher earnings over £100,000, you face a higher tax rate, even reaching up to 60% in some cases. Let’s break it down in simpler terms and explore how you can possibly lower your tax rate.
Understanding the 60% Tax Rate
In the UK, all individuals are allowed a tax-free amount known as the Personal Allowance, which stands at £12,570 this tax year. Earnings above this are taxed progressively, with rates varying from 20% to 45%.
The 60% rate comes into play once your earnings exceed £100,000. Beyond this threshold, your Personal Allowance reduces gradually, essentially leading to a 60% tax rate for incomes between £100,000 and £125,140.
How Can You Reduce Your Tax Rate?
The good news is there are strategies to potentially lessen your tax burden. Here are some straightforward tips to consider:
1. Save More in Your Pension
Though it might feel early in your 20s or 30s, saving more in your pension can significantly reduce your tax bill. It not only helps in claiming back some part of the 60% tax but also accrues tax-free gains over time. The exact benefit depends on your earnings and the scheme your employer uses to handle pension contributions.
Here are three compelling reasons why you should:
- Reclaim Your Tax: A notable portion of the tax you pay can be reclaimed when you save in your private pension. Even if you fall into the 60% tax bracket, saving in your pension allows you to get a significant part of that back.
- Employer Contributions: Typically, employers contribute to your pension as well, often adding between 4-5% of your salary to your pension pot.
- Tax-Free Gains: The money you accumulate over the years through investment returns in your pension fund will be tax-free once you reach the age of 55.
2. Opt for Non-cash Bonuses
If you’re in a field like investment banking or consulting, where bonuses can push you into the higher tax bracket, consider non-cash bonuses. Things like private medical insurance, a company car, or childcare benefits can be tax-free and lower your taxable income.
- Company car (especially if it’s electric)
- Private medical insurance
3. Invest in Startups
Investing in startups through specific UK schemes can offer tax relief and potentially tax-free profits if the startup succeeds. To start with, explore crowdfunding platforms or consult brokers to find the right investment opportunities.
There are three startup investment schemes in the UK:
- The Seed Enterprise Investment Scheme (SEIS) gives you 50% back
- The Enterprise Investment Scheme gives you 30% back
- The Venture Capital Trust (VCT) also gives you 30% back
- Discuss salary sacrifice schemes with your employer to enjoy non-cash bonuses.
- Consider increasing your pension contributions and explore startup investment platforms.
- If your earnings exceed £150,000, register for Self Assessment to avoid fines and ensure you claim all possible tax reliefs.
Remember to act promptly and consult a tax advisor to strategize optimally according to your individual circumstances.