Nearly 1 million more workers expected to fall into ‘60% tax trap’

Recent figures in the Telegraph Money show nearly a million more workers may face paying 60% income tax. Workers in England and Wales earning between £100,000 and £125,000 will fall into the ‘60% tax trap’ with approximately 336,000 people already getting caught every year. 

Thanks to growing earnings, around 950,000 people are now earning between £75,000 and £100,000 based on the latest official figures from 2019-20, placing them just below the threshold for the 60% tax trap.  

With the then Chancellor Rishi Sunak’s announcing last year that all personal tax bands would be frozen for five-years, until 2026, to “rebuild the public finances following Covid”, the amount of unsuspecting earners falling into the 60% tax trap is set to only increase over the coming years.  

Read our article on the recent personal allowance freeze.

What is the ‘60% tax trap’? 

The ‘60% tax trap’ refers to the income band of £100,000 to £125,140 between which earners will effectively experience a 60% tax rate on their income. This is because for every £2 you earn over £100,000 each year; you lose £1 worth of your £12,570 tax-free personal allowance. Your tax rate only returns to the normal higher rate tax band of 40% after the entirety of your personal allowance for that year has been deducted, which is those earning just over £125,000 but less than £150,000. 

For example, someone earning £100,000 who receives a bonus of £1000 will only receive £400 of his bonus. This works out as follows: 

He immediately loses £400 to the standard 40% higher rate tax, leaving him £600. 

As he loses £1 for every £2 earned over £100,000, his £1000 bonus translates to £500 deducted from his original tax-free personal allowance. This deduction of £500 is then retroactively taxed at his current standard rate of 40%, meaning he pays another £200. 

After paying the original tax of £400 and then the subsequent tax of £200, he is left with only £400 of his original £1000 bonus, meaning he has effectively experienced a 60% tax rate. 

Nearly a million more workers anticipated to fall into the trap 

With the cost of living on the rise, annual wage growth is increasing too.  At the current annual wage growth of 6.2%, someone who earns £75,000 could find themselves being hit by the 60% tax trap before 2027, while someone earning £90,000 could find themselves in the trap within just two years. Due to this creeping inflation of wages, more and more unsuspecting earners will find themselves taxed 20% more than normal while having less spending power than before.  

How can I avoid falling into the tax trap? 

One the main things you can do to avoid the trap is increasing your pension contributions. By choosing to make pension contributions on any excess income you earn over £100,000, you can effectively prevent your taxable income from going above the £100,000 threshold and into the 60% tax trap.  

Thanks to the Government tax relief on your pension contributions, you can make a contribution by opting to pay excess income into your pension, known as salary sacrifice, so you’re not only saving your excess earning from being taxed 60%, but you also gaining more in your pension pot in the process. However, it must be noted that the amounts need to be within your pension annual allowance of £40,000 a year (or no more than the carry-forward rule allows) otherwise you will be hit with another tax charge. 

If you make the pension contribution from your net salary (e.g. from built up savings) you will still receive the 60% tax relief but in a different way. 20% of your net contribution will be automatically grossed up by HMRC and will fall into your pension. Then, as higher rate taxpayers, you will be able to claim back a further 20% on your self-assessment form for which will come back to you and not into your pension. The remaining 20% will be from regaining your personal allowance through making the pension contribution and effectively reducing your relevant earnings used for income tax calculation. 

Controlling your income to reduce your tax bill can be complex and time-consuming, but by engaging the help of a financial adviser we can advise and assist you on the best approached to suit your own personal situation and circumstances. Leaving you to free up otherwise lost time to focus on the other things.  

If you want to find out more, why not give us a call on 0333 323 9065 or book a free non-committal initial consultation with one of our chartered advisers to find out how can help. 

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