What is Income Tax?
Income tax, as its name suggests, is a tax on income. It is charged on the:
- Income of UK resident individuals arising anywhere in the world. ( So if you are a UK resident and earn some money in France, you need to pay income tax in the UK)
- Income from non-UK resident individuals arising from a source in the UK. (So if you come from abroad, you need to pay tax on any income you earn whilst in the UK)
- Income of trustees who are UK resident.
For the above, you can see that residential status is integral to knowing whether or not you pay income tax. Residential status is a complex topic, but generally a person is resident of the UK if they have always lived in the UK and spends the majority of their time here.
What Income is Taxable?
You need to pay Tax on Income generated from:
- Employment Income
- Income from Self Assessment
- Property Income
- Pensions Income
- Interest on savings and investments unless it is is specifically exempt
- Some state benefits such as jobseekers allowance and carer’s allowance.
You need to add all the above sources of income in order to determine your rate of tax.
Not all income is taxable. Non-taxable income includes:
- Winnings from betting.
- Lottery winnings, Premium Bonds and Competition prizes.
- Interest earned on tax exempt bank accounts, such as ISAs or a 10 year tax-free flexible savings plan.
- Income received from renting your spare room out providing it is below £4,250 a year.
For what period of time should you pay Income Tax?
You need to pay Income Tax for every tax year. A tax year runs from 6 April to 5 April the following year.
When should you pay tax.
You need to pay Income Tax on the 31st January following the tax year.
So for the 2014/2015 tax year, i.e. 6 April 2014 – 5 April 2015, you will need to complete your Self Assessment and pay your tax by 31 January 2016. Self Assessements can be complex to complete, so many small businesses choose to hire someone like Shockley Bookkeeping & Tax Services to help them. You need to keep a record of all incoming and outgoing funds associated with your business throughout the year, in order to be able to pay the correct amount of tax.
How Much Tax do you need to pay?
The amount of tax you need to pay depends on your personal allowance and tax band you are in i.e. basic rate, higher rate or additional rate.
Personal Allowance: The Personal allowance for the current tax year is £10, 000 (increasing to £10, 500 next year). This means that you do not need to pay tax on any earnings below £10,000.
Basic Rate of 20%: This is payable by all people whose level of income, after any allowances like personal allowance, makes them liable to income tax.
Higher Rate: This is payable on income over the higher rate threshold and up to the additional rate threshold.
Additional Rate: This is payable on income over the additional rate threshold. The highest earners in the UK pay this rate.
Lets put the above in an example to make it a little easier to understand:
The current rates of income tax for this tax year ( 6 April 2014 – 5 April 2015) are 0% tax on the first £10,000 you earn as this is called Personal Allowance. If you earn up to £41, 865 a year, the first £10,000 is free of income tax and you pay 20% on the remaining amount. If you earn between £41,866 to £150,000, you will be classed as a higher rate tax payer and you will pay 40% on any amount over £41,865 as the first £10,000 is free of Income Tax and you pay 20% on the amount between £10,000 and £41, 865. There is an additional rate of tax of 45% if you are lucky enough to earn over £150,000.
Here is the table found on the .gov website :
|Tax rate||Taxable income above your Personal Allowance|
|Basic rate 20%|| £0 to £31,865
Most people start paying basic rate tax on income over £10,000
|Higher rate 40%|| £31,866 to £150,000
Most people start paying higher rate tax on income over £41,865
|Additional rate 45%||Over £150,000|
Reducing your Income Tax liability.
There are certain ways to legally reduce your income tax liability. Two of the most common ways are by using
1) SIPP (I will be writing an article on this soon)
2) Gift Aid Scheme
I hope that this article has helped you better understand income tax. If this article has been useful for you, please donate to my PayPal using the link in the left sidebar. Your donations will be much appreciated.