The number of taxpayers caught in the 60% tax trap has increased by nearly 25% over the past year. More than 500,000 people are now affected by higher tax rates due to their income exceeding £100,000.
The 60% rate, applies to income between £100,000 and £125,140, based on UK income tax rates. This is the tranche of income which sees the £12,570 personal allowance tapered away.
Fiscal drag
There has been no change in the £100,000 income limit since the withdrawal of the personal allowance was introduced in 2010, a classic case of fiscal drag. Once the personal allowance is fully withdrawn, higher earners subject to UK income tax rates pay the additional rate of 45% on income in excess of £125,140. However, the 60% unofficial rate still applies to income between £100,000 and £125,140. This is due to a 40% tax rate between £100,000 and £125,140 taking £40 off of every £100 earned while another £20 per £100 earned is lost by the tapering of the personal allowance. This figure is even greater in Scotland, where income between £100,000 and £125,140 is now taxed at a rate of 45%, known as the advanced rate, resulting in an overall charge of 67.5% for Scottish Taxpayers.
The past year has seen a particularly high increase in individuals caught by the 60% tax trap due to inflation driving up salaries. The government is unlikely to fix the problem by reinstating the personal allowance for higher earners – the cost would be prohibitive. However, smoothing the transition is a possibility. For example, tapering the personal allowance by £1 for every £4 (rather than £2) that income exceeds £100,000 would reduce the 60% tax rate to a rate of 50%, for taxpayers subject to UK tax rates.
Planning measures
Measures that can be taken to mitigate the 60% tax trap vary from individual to individual:
- Pension contributions are particularly attractive however, be warned, that the October Budget might see the tax relief given on pension contributions restricted to a flat rate.
- Some income reallocations might be possible between spouses and civil partners, especially if they are in business together.
- Make the best use of tax-free investments to turn taxable investment income into non-taxable income.
- Be mindful of the timing when cashing in investment bonds or making pension withdrawals.
Employees should consider using a salary sacrifice arrangement for pension contributions or low-emission company cars.
Details of income tax rates and personal allowances for the current tax year can be found here.
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