Entering the higher tax bracket (total income over £50,270 for the 2022/23 tax year) could be a sign of a promotion or pay rise, or your self-employed business moving from strength to strength.
However, there are some consequences to this that you may not be aware of. Some of them are positive, some are negative, and some may not apply to you. It will be worth being aware of all of them as you may be able to reduce your tax bill and to avoid any potential penalties from non-compliance.
Tax bill
The first negative is that your tax bill will increase. This is probably the thing everyone will think about straight away when entering the higher tax bracket. However, it might not go up as drastically as you think.
You will not pay this higher rate on all of your income, only the income above the threshold. This means that every pound above will have 40p deducted in tax, compared for 20p below the threshold.
National Insurance
One positive to counter this is that your rate of national insurance will drop. The rate at which you pay national insurance varies depending on your personal circumstances but for most people in employment this will drop from 13.25% to 3.25% (saving you 10p in every pound) and if you are self-employed it will drop from 10.25% to 3.25% (saving you 7p in every pound).
The net effect of the tax increase and the NI decrease is therefore usually an additional 10p in every pound for employed people and additional 13p in every pound for self-employed people.
Child Benefit
Everyone with a child is entitled to child benefit but when you or your partner start earning £50,000 per year you need to start paying it back to a point where at £60,000 of income it needs to be repaid in full. You must complete a self-assessment personal tax return to repay it. I wrote about this in more detail here.
Pension payments
If you pay into a personal pension – this is basically any pension other than a workplace pension – then you are entitled to tax relief on the contributions. This relief is given by increasing the amount you can be taxed before you are charged tax at the higher rate. For example, if you pay £5,000 into a personal pension in a year, you won’t start paying the higher rate of tax until you have earned £55,270.
Charitable donations
Charitable donations made with gift aid are tax-free. If you donate and you click the gift aid box, the charity will automatically claim back the 20% tax you would have paid on the donation. However, if you are paying tax at 40%, you can reclaim the 20% that the charity has not reclaimed. This can be done either through your self-assessment personal tax return, or by calling HMRC.
