The first time you get your personal tax return calculation it might be a little bit confusing. The way that it is presented is very logical to us accountants, but without knowledge of the intricacies of the tax system, then it is not always the simplest for follow.
The first thing to understand is that your tax liability for the year is calculated by looking at all of your income from any source - e.g. employment (prior to any tax deductions), rental property, self-employment (less allowable expenses), interest and dividends and then totalling it up. When we have this, we have your total income figure.
For simplicity of this article, Capital Gains Tax is excluded. This is tax on sales of large capital items – such as a rental property. Most people don’t have to worry about this, and so I’m leaving it out to avoid complicating matters.
Almost everyone is entitled to a personal allowance. This starts at £12,570 for the current tax year, although if your income exceeds £100,000 in total, then this reduces on a sliding scale.
Your personal allowance is deducted from your total income to get a taxable income figure. Tax is then calculated on this figure.
The next thing to understand is that there are various types of tax that you may have to pay. The three we will be looking at are Income Tax, National Insurance and Dividend Tax. These each have separate rates of tax.
There are also allowances that you may be entitled to, for example up to £1,000 of savings income may be tax free, and everyone gets £500 of dividends taxed at 0%.
Once you have your taxable income, you then need to divide it into sections. It needs to be split by type of income, and then by the tax band.
Income subject to income tax always comes first, and then dividend tax. National insurance is then calculated separately. This means that the personal allowance is effectively always used against income tax as a priority.
Let’s add some numbers and hopefully this will make everything a bit clearer. We will assume that we have income from lots of different sources:
- Employment income totalling £30,000
- Self-employment profits totalling £15,000
- Rental profits of £7,500
- Savings / interest income totalling £2,500
- Dividend income of £10,000
As employment, self-employment and rental income are all subject to Income Tax, we can put them in one column. The other income will each have its own column.
As the Income Tax Column exceeds the Basic Rate band of £37,700, we will split it into two and calculate the tax on it. For the other types of income, we deduct the allowance and put the remainder in the Higher Rate row, because the Income Tax column already exceeded the Basic Rate band.
The next thing we do is multiply each of these amounts by the appropriate tax rate. For Income Tax at Basic Rate this is 20%, for Higher Rate Income Tax and Savings Tax it is 40% and for Dividend Tax at the Higher Rate, it is 33.75%. In this example we would get
£37,700 x 20% = £7,540
£2,230 x £40% = £892
£1,500 x £40% = £600
£9,500 x 33.75% = £3,206.25
This makes a total tax bill of £12,238.25 on the total earnings of £65,000.
What you can see is that only income after the Basic Rate band is taxed at the Higher Rate, so you don’t suddenly have all your income taxed at 40%. This is a point that does sometimes confuse people.
Once you’ve got your total tax bill, you can still deduct some things from it. Firstly, you will deduct any tax you paid on your employment already.
The reason employment income isn't just ignored entirely is because tax codes are just an estimate of how much you will owe, and individual's situations can change mid-year to throw it out. You also don’t know how much of your personal allowance will be utilised when you are earning your income.
You can also then deduct 20% of your mortgage interest payments. The reason it isn't deducted from rental profits is because you can only deduct 20%. If it was included in the rental profits, then it might cause a deduction at higher rates of tax.
Once you’ve deducted these, you have the final amount that you will have to pay or be able to reclaim from HMRC for the year.
On top of this, if you were self-employed you will need to pay Class 4 National Insurance. This is 6% of self-employed profits after £12,570. In our example where self-employed profits were £15,000, this means that NI is being paid on £2,430 of profits, so it is a total of £145.80 due. This rate does drop down to 2% when self-employed profits hit £50,270.
If you have an outstanding student loan, these payments will also be collected through your tax return, as will any Child Benefit that you may have to repay if you exceed the threshold for doing so.
If you have been making payments on account, then you will be able to deduct these, although you are likely to have to pay more for the following year.
There are things to note that may affect how much of your income is taxed at the basic rate. If you donate to charity through gift aid, this is tax free. Amounts that are eligible will increase your basic rate band. Contributions to pensions are also tax free. Generally a pensions provider will have reclaimed 20% tax at source. If you contribute to a pension (other than a workplace pension) then this will also increase your basic rate bad.
Note: all of these figures are correct as of 25th July 2025.
