An awful lot of people might imagine that becoming an additional-rate taxpayer would be a nice problem to have. However, for those dragged into the 45% rate when the threshold is cut from £150,000 to £125,140 in April, there’s going to be nothing nice about the problems they face.
The move will mean around 232,000 extra additional-rate taxpayers. It’s not the exclusive club it once was – with over three quarters of a million people estimated to be at this rate of tax from April 2023. In fact, next tax year there’ll be around three times more people paying this rate than there were back in 2010/11.
The change in the threshold will cost them hundreds – or even thousands – of pounds more in tax. Those earning between £125,140 and £150,000 will be £621 worse off on average in the coming tax year. Those earning over £150,000 will be an average of £1,256 worse off.
Fortunately, there are some steps you can take to cut any additional-rate tax you might pay. In some cases, this could pull some people out of the reduced additional-rate tax bracket altogether.
This article isn’t personal advice. Tax rules can change, and any benefits depend on your circumstances. If you’re not sure what’s right for you, seek advice. If you live in Scotland, different tax rates and bands will apply. Unlike the security offered by cash, investments can fall as well as rise in value so you could get back less than you invest.
Tips to help cut your additional-rate tax bill
Tip 1
Shelter as many of your income-paying assets in ISAs as possible.
Income tax rates are usually higher than capital gains tax rates, so it’s worth prioritising sheltering those. If you hold income-paying shares or funds outside an ISA, you can use the Share Exchange process, to sell them and buy them back in an ISA – also known as a Bed and ISA.
Bear in mind though, selling investments to move them into an ISA could trigger a capital gain, which you could have to pay tax on.
Find out more about Share Exchange
Tip 2
If you’re married or in a civil partnership and your partner pays a lower rate of tax, you could transfer income-paying investments into their name. That way you can both take advantage of your allowances – including ISAs – any transferred investments outside an ISA is taxed at their marginal rate, rather than yours.
Tip 3
If you’re set to breach the threshold for the first time next year, you could think about bringing any income forward to the current tax year.
If you receive some of your income from a pension in drawdown, you might be able to bring some of it forward.
If you receive some of your income as profits from self-employment, make sure your billing is up to date, so as much of your income as possible is made in the current tax year.
If you tend to get a bonus, especially if you run your own business, you could have the flexibility to receive it in the current tax year, where more of it might be taxed at a lower rate.
Self-employed? Tips to help cut your tax bill
Tip 4
Those set to become additional rate taxpayers could consider taking dividends before the end of the tax year.
If you pay yourself in part through dividends, you might be able to take them before the end of the tax year. Not only would you get a higher dividend allowance this side of the tax year (£2,000 compared to £1,000 from April 6), but you’d also pay 33.75% on the excess as a higher-rate taxpayer – instead of 39.35% as an additional-rate taxpayer.
Tip 5
Consider a Cash ISA.
This will likely depend whether you’ve already used your ISA allowance. The annual ISA allowance is currently £20,000, which you can split between one of each type of ISA. You can move savings into a Cash ISA if it’s right for you.
When you become an additional-rate taxpayer, you lose your personal savings allowance overnight and pay 45% on all your interest. So you’re better off in a competitive Cash ISA than the equivalent savings account.
Remember, the Personal Savings Allowance is based on the rest of UK tax bands.
Tip 6
You could consider contributing more to your pension and getting tax relief at up to 45%. If this brings your taxable income below the additional-rate threshold, you’ll also benefit from the fact you’ll start reclaiming your personal allowance too.
Plus, the annual pension allowance will be increasing from £40,000 to £60,000 for most people. Those who’ve flexibly accessed a pension or impacted by the tapered allowance will see their pension allowance increase from £4,000 to £10,000 too. This means you have more scope to take advantage of this tax saving from 6 April.
If your workplace runs a salary sacrifice scheme, you can agree to give up some salary in return for pension contributions, which means you also save National Insurance. If you pay additional-rate tax, then on your last £1 of earnings you’ll face income tax at 45%, plus National Insurance at 2%, so you’ll take home 53p. If you sacrifice it in exchange for a pension contribution instead, the full £1 will be paid into the pension. Some employers will pass on some of their National Insurance saving too.
You’ll usually need to be at least 55 (rising to 57 from 2028) before you can access the money in your pension.
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