According to the Office for National Statistics, in the 2021/22 tax year, just over 4.5 million people in the UK were paying higher or additional rate tax, a figure that has risen year on year.
Over two million more people are likely to be higher-rate taxpayers by 2028 due to the freezing of the higher rate tax threshold. This not only raises the rate of income tax you pay but it hikes the tax on capital gains and dividends and reduces your personal savings allowance.
There are several ways to reduce the tax you pay on your annual income as a high earner. Here are ten suggestions for you to consider.
- Pay into a pension
Higher-rate taxpayers benefit from tax relief at their highest marginal rate, so you stand to get a 40% boost on your contributions.
However, it doesn’t necessarily stop there. It also has the benefit of reducing your net adjusted income. If you’re a parent earning over £50,000, cutting back towards £50,000 means you can reduce your high-income child benefit tax charge.
Remember money in a pension can’t normally be accessed until you reach the age of 55 (57 from 2028).
2. Salary Sacrifice
Asking your employer if you can enter into a salary sacrifice contribution arrangement to your pension, which will reduce the amount of money subjected to the highest rate of income tax. This can be quite complicated and more details can be found on the government website.
A key additional benefit of salary sacrifice arrangements is that depending on your employer, they may pay the National Insurance Contributions savings they make from the forgone salary into your pension.
3. Use pensions to deal with the £100,000 threshold
Investing in your pension pot is an attractive option to increase your savings in a tax efficient way. We actively encourage clients, when suitable, to contribute regular amounts to their pension to not only build up their pension pot but also to benefit from tax efficiencies.
If someone earning over £100,000 pays into their pension, and cuts their adjusted net income, it means they get back some of their personal allowance. So for every £2 their income falls, they’ll get £1 of their allowance back.
It means less of their income is subject to tax at an eye-watering 60%. Plus, if a parent can bring their income back under £100,000, they could also keep their eligibility for tax-free childcare.
4. Make full use of your annual allowance
The annual allowance will increase from £40,000 to £60,000 from 6 April 2023.
This is the maximum amount someone can contribute to a pension each year while still receiving tax relief. It’s also possible to carry forward unused allowances from the previous three tax years.
5. Child Benefit Charge
An individual can receive Child Benefit if they are responsible for raising a child who is either under 16 or under 20 if they stay in approved education or training.
If you are a couple claiming Child Benefit, where one or both individuals have an income above £50,000 per annum, or someone else claims Child Benefit for a child living with you and they contribute at least an equal amount towards the child’s upkeep, you may have to pay a tax charge. This is known as the ‘High Income Child Benefit Charge’. More details can be found on the government website here.
The tax charge is calculated through the tax return on any partner whose income is more than £50,000 a year. In the event that both partners have incomes over £50,000, the charge will apply to the partner with the higher income. The tax charge will be 1% of the amount of Child Benefit received for every £100 of excess income.
By making a personal pension contribution, you may avoid the tax charge as the adjusted net income used by HMRC will reduce. If the pension contribution is enough to reduce this to below £50,000, the High Income Child Benefit tax charge will be avoided.
6. Tax efficient investment schemes
An investment into a qualifying Venture Capital Trust (VCT), Enterprise Investment Scheme (EIS) or Seed Enterprise Investment Scheme (SEIS) attracts significant tax benefits. For an EIS or VCT, you can receive 30% income tax relief on the amount you invest, for SEIS this increases to 50% relief. This 30% is only achievable if you have paid sufficient tax for the year in question.
7. Make use of the Married Couple’s Allowance
High earners can also reduce their tax liability by making use of the married couple’s allowance. This allowance allows married couples to transfer some of their unused personal allowance to their partner, which can help to lower the overall tax bill.
8. Plan as a couple
If you’re married or in a civil partnership and your partner pays a lower rate of tax, you can transfer income producing assets into their name. That way you can both take advantage of your allowances and then the rest is taxed at their marginal rate rather than yours.
9. ISAs
Higher-rate taxpayers pay tax on dividends at 33.75% with a tax-free allowance of only £1,000 in the 2023/24 tax year.
If you use the share exchange process to shelter income-producing shares in an ISA, you won’t pay tax on these dividends. Because the dividend tax rate is higher than the capital gains tax rate, it’s often worth prioritising this when deciding how to use your ISA allowance.
10. Make a charitable donation
This will cut your tax bill although clearly won’t leave you better off overall. The charity will receive 20% in gift aid and you can claim back the other 20% through your tax return.
To do this, you must register for gift aid with a ‘Gift Aid Declaration’, keep a record of your gifts and gift no more than four times your total income and capital gains tax payment for the tax year in question
Please note that this article isn’t personal advice. Tax rules change frequently and any benefits depend on your circumstances. If you’re not sure what’s right for you, please seek professional advice.
