Whether you are a property investor or work in a firm, you need to pay income tax on your earnings. When reporting your income and paying tax to HMRC, make sure you know which income tax band you fall into. Fortunately, you have the benefit of a personal allowance. This means that you can earn up to the threshold without having to pay tax. Not only this, but there are also plenty of ways to reduce your income tax liability. This guide will cover all that and more.
First, let us discuss the definition of income tax and how it is used. Then, we can move on to allowances and other benefits.
What is Income Tax and What is its Purpose?
Based on your annual income, you pay the government tax, which is called income tax. You must pay taxes on the profit you make in case you are self-employed. This is inclusive of any products and services you sell or provide online.
The key source of the government is income tax, which HMRC collects for them. Now, what does the government do with income tax? Well, it uses it to fund for public services. For example, education, welfare system, and the NHS. Additionally, it uses the revenue for other investments as well, which are for public use. Road construction, housing, and railways are just a few such examples.
Who Needs to Pay Income Tax?
Moving on to the question, which incomes are taxable? Most types of income are subject to income tax, such as profit from your business, salary from your job, pension, and the rent you receive as a property owner. Furthermore, estates, corporations, and other kinds of entities also owe tax on the profits they make.
There is no need to stress, as not all your income is taxable. Fortunately, in most cases, you are eligible for at least one type of tax relief or tax-free allowance. The amount of income you can earn before it becomes liable for income tax is called an allowance.
What are the Income Tax Bands for the Tax Year 2024/2025?
For the tax year 2024/25, the income tax bands will probably remain the same as the previous tax year. Moreover, they are going to remain in effect until 2028 as per the current projection. The following income tax rates apply when you exceed the £12,570 threshold:
|Income Tax Band
|£0 – £12,570
|£12,571 – £50,270
|£50,271 – £125,140
What is the Personal Allowance for the Tax Year 2024/25?
The tax year 2024/25 will begin on April 6, 2024, and end on April 5, 2025, the personal allowance for which is likely £12,570 as per current predictions.
For the tax year 2023/24, the personal allowance was the same. Until April 2028, the government predicts keeping it at the same amount.
You do not need to pay income tax on any earnings within this threshold. That means any salary you earn or profit you make, which does not exceed £12,570, is not subject to tax.
When you surpass this threshold, then income tax begins to apply. It is according to your level of income from self-employment or under PAYE. It is crucial for your personal allowance to remain accurate as it generates your tax code. Also, it helps figure out how much you must pay to HMRC. Thus, you should make the most of your personal allowance:
Do You Need to Pay National Insurance?
If you are 16 or above, you are liable to make National Insurance Contributions. You must do so on any earnings which exceed the payment threshold. Making National Insurance Contributions is obligatory till you reach State Pension age. It is vital that you pay the correct amounts of NICs as they may help you qualify for state pension and certain benefits. Hence, you should comprehend the NICs rules and regulations.
Employees and self-employed individuals need to pay National Insurance on their income. Employers must also pay it on the wages they give to their staff. Your earnings and employment status determine the amount of National Insurance you owe. Therefore, it can vary.
Different types of National Insurance are called classes. Your source of income determines the class that you pay. For example, Class 4 National Insurance is payable by self-employed individuals.
|Who Needs to Pay
|Employers automatically deduct taxes from employees under the State Pension age who make more than £242 per week from a single employment.
|Class 1A or 1B
|On the benefits or expenses of their employees, employer pays these directly.
|Self-employed individuals making profits of £12,570 or more annually.
|Individuals pay these voluntary contributions to avoid or fill gaps in their National Insurance records.
|Self-employed individuals making profits of £12,570 or more annually.
What Tax Changes are Occurring in 2024?
The Autumn Statement brought certain measures which will help reduce your tax burden. Please note that not all changes are in your favour.
The major tax changes happening in 2024 are as follows:
1. Reduction in National Insurance Rates
Although tax cuts were not a part of the plan previously, the Chancellor announced otherwise in the Autumn Statement. Relief came in the form of a reduction in the National Insurance rates for taxpayers.
Self-employed workers and employees who are under the age of 66 will gain the benefit of savings from this implementation. You do not need to pay National Insurance when you reach the age of 66.
Class 1 Employee NICs
For Class 1 Employee National Insurance Contributions, the tax rate cut down from 12% to 10% as of 6 January. This is for workers who earn between £12,570 and £50,270. Around 27 million people are going to benefit from this amendment.
As compared to 2022/23, individuals that earn an annual salary of £30,000 are going to pay less by 2023/24. They will save up to £303.35. Whereas in comparison to the preceding financial year, they can save £261.35.
It means someone earning an annual salary of £30,000 will pay £303.35 less by 2023-24 compared to 2022-23. In 2024-25, they will save £261.35 compared to the previous financial year. Therefore, a lot of new implementations are favourable.
You are liable to pay Class 2 and Class 4 National Insurance rates on any profits exceeding £12,570 as a self-employed worker.
However, that is about to change. As of April 2024, the abolishment of Class 2 contributions will take place. They stand at a flat rate of £3.45 a week presently. In 2024-25, 1.9 million are going to benefit from this amendment as per prediction.
Furthermore, there is a reduction in the Class 4 National Insurance rate from 9% to 8% on profits surpassing £12,570. Thus, as a self-employed worker earning £30,000 annually, you can save £354.10 in 2024-25 in comparison to the previous year.
2. Dividend and CGT Allowances Will Cut Down to Half
If you are going to sell your second home or any other asset, you should know about the cuts to tax-free allowances. The same goes for anyone who is the owner of investments in an ISA.
You can make tax-free gains of up to £6,000 as per the current rules. In 2022/23, it was up to £12,300. Further reduction is going to take place from April 2024, as it will go down to only £3,000.
Unfortunately, divided allowance faces the same fate. In 2023-24, it was cut down from £2,000 to £1,000. From April, it will further decrease to £500. Hence, some changes are going to affect you negatively.
3. ISA Rules Will Become Less Complex
In an ISA, it is possible to save up to £20,000 in a year. Yes, you can grow this money fully tax-free.
Did you know it was possible to earn tax-free interest on saving outside an ISA? Indeed, you can if it does not go over your personal savings allowance.
In a single tax year, you cannot pay into more than one of each type of ISA under existing rules. Suppose you decide to open an instant-access cash ISA. Then, it is not possible for you to open a fixed-rate cash ISA in 2023/24.
From April 2024, this will change. From there onwards, you can freely search for higher returns by moving between various providers. Additionally, you can invest in a wider range of investments if you have innovative finance ISAs.
4. You Will Likely End Up Paying More Council Tax
The bad news is that you should prepares yourself to pay higher council tax bills from April.
Without having to hold a local referendum, local authorities in England were permitted to raise council tax by 3% for 2023/24, plus an additional 2% if they were eligible for the social care precept.
For the next financial year, these rules will not change. Therefore, you are likely to witness an increase in your council of up to 5% in April again.
In Scotland, the government’s decision is to freeze council. This took place after there was an increase in bills by local authorities of up to a minimum of 5%. Undoubtedly, it is important to understand the changes in council tax.
Ways to Reduce the Amount of Income Tax You Owe
You can lower your income tax bill by managing your income and making use of allowances. This way you stay in a lower tax bracket.
Following are the options you can use to reduce the amount of income tax you need to pay:
Take Advantage of Your Marriage Allowance
You can benefit from the marriage allowance if you have a spouse or a civil partner. This will lower the total amount of income tax you owe as a couple. Through this allowance, you can transfer your unused personal allowance to your partner. It is possible to transfer a maximum of £1,260. Thus, you can save up to £252 in a tax year.
Make Savings Tax-Efficiently
When people earn interest on savings, they typically do not pay tax.
Through the personal savings allowance (PSA), you can earn tax-free interest. The rate of income tax you pay determines the amount of allowance you can receive, which are as follows:
- Basic-rate taxpayers: £1,000
- Higher-rate taxpayers: £500
- Additional-rate taxpayers: £0
Approximately 95% of people do not pay tax on their savings because of the personal savings allowance. You should move your savings to a tax-efficient wrapper in case you belong to the rare 5%.
It is possible to add up to £20,000 to an ISA every year. For investments held in an ISA, you are not liable to pay capital gains or income tax. Indeed, you can benefit greatly from this method.
Create an Income by Using Dividends
You can use dividends to increase your income without paying income tax. Those who are business owners or hold dividend-paying investments can do so.
Through this allowance you can get up to £2,000 tax-free dividends as of 2022/23. However, you owe dividend tax if you surpass this threshold. The rate for dividend tax is likely lower than your income tax rate. Hence, using dividends will likely prove beneficial for you.
Utilise Salary Sacrifice Schemes
Another way to reduce your income tax liability is to benefit from salary sacrifice schemes. You can do so if your employer offers them.
If you are an employee, you need to let go of part of your salary in exchange for other benefits. For example, childcare provided by employer or higher pension contributions from employer. You can use salary sacrifice schemes to decrease the amount of tax you owe since your income is lower. Moreover, it is possible to keep your income below specific thresholds.
Before using this scheme, you need to evaluate the value of the benefits you will receive in exchange. Under certain circumstances, it may not be the best option for you.
Make Higher Pension Contributions
With pension you can save for your future in a tax-efficient manner.
When you make contribution towards your pension, tax relief applies to them. This way the money you pay in tax goes into your retirement savings. Since your pension is usually invested, the tax relief can potentially grow further.
At the highest rate of income tax you pay, the availability of tax relief exists. For basic-rate taxpayers, it is typically claimed on their behalf automatically. Whereas for higher or additional-rate taxpayers, completion of self-assessment tax form is necessary to claim the total entitled amount. Therefore, pension contributions play a major role in reducing your income tax liability.
Please note that it is not possible to access your pension savings until you reach the pension age. Currently, it is 55. However, it will rise to 57 by 2028.
To summarise, there are quite a few tax changes taking place in 2024. Some of them are beneficial for you while others are not in your favour. However, in terms of income tax rates, there is likely no changes. The same goes for personal allowance for the tax year 2024/25. Nevertheless, you need to keep an eye out for all the upcoming amendments as some involve cuts in allowances. As always, it is best to reach out for expert advice.