Although tax is a necessary part of life, no one likes the idea of paying more than they have to. Yet each year, millions and millions of pounds worth of tax is unnecessarily paid from savings, investments and also your retirement planning. According to Prudential £296 million of pension tax relief goes unclaimed each year!!
Follow through the steps below to make sure that you are not paying more than you have to and also learn what to do if you have over paid in the past.
How Does Income Tax Work?
Income tax is usually automatically deducted from pay and it can be difficult to understand how this is calculated on your behalf. Here is an easy to understand breakdown to help you get you head round it.
The first thing that you need to know is that you are allowed to earn a certain amount each year before you pay tax. This is called your personal allowance. For the tax year 2015/16 the “normal” personal allowance is £10,500. This means you are allowed to earn £10,500 between 6th April 2015 and 5th April 2016 before you pay any tax.
After this it is possible to be taxed at 20%, 40% and 45%.
Any money that you earn over £10,500 is taxed at 20% up to a certain point. You are allowed to earn an additional £31,785 at 20% tax. Therefore 40% tax kicks in after you have earned £10,500 + £31,785 = £42,285.
You then pay 40% tax all the way until your earnings reach £150,000. On all earnings above £150,000 you pay 45% tax.
There is a really complicated tax zone on earnings above £100,000. For every £1 you earn over £100,000 you loose 50p of your Personal Allowance. I really recommend that anyone in this bracket seeks financial advice, because there are lots of little things(all legal and above board!) that can be done to reduce your tax e.g. pension contributions.