As your bookkeeper, it’s essential to understand how earning over £100,000 in a tax year affects your personal allowance and what strategies can be employed to mitigate the impact.
Personal Allowance Reduction
If your adjusted net income exceeds £100,000, your personal allowance decreases by £1 for every £2 over this threshold, regardless of your age. This means that once your adjusted net income reaches £125,140, your personal allowance is reduced to zero.
Adjusted Net Income
Adjusted net income is calculated as your total taxable income before any personal allowances, minus specific tax reliefs. These reliefs can include:
- Trading losses
- Certain charitable donations
- Pension contributions
Effective Marginal Tax Rate
For the current tax year, if your adjusted net income falls between £100,000 and £125,140, you effectively face a marginal tax rate of 60%. This occurs because your £12,570 tax-free personal allowance is gradually withdrawn within this income band.
Tax Planning Opportunities
If your income falls within this range, there are several strategies to consider for reducing your adjusted net income below £100,000, thus avoiding the personal allowance trap. These strategies include:
- Making charitable donations
- Increasing pension contributions
- Participating in specific investment schemes
Carrying Back Charitable Contributions
Higher rate or additional rate taxpayers looking to reduce their tax bill can make charitable donations within the current tax year and elect to carry back these contributions to the 2023-24 tax year. This election must be made before or at the same time as completing the 2023-24 self-assessment return, due by 31 January 2025.
By employing these strategies, you can effectively manage your taxable income and potentially retain your personal allowance, leading to significant tax savings.
If you need assistance with tax planning or any other bookkeeping services, please get in touch.
Source: HMRC.