Don’t get caught by the 60% tax trap!

As we approach the end of the 2024/25 tax year, now is a great time to take stock of your total income and avoid the 60% tax trap.

Whilst many people will know that income tax is charged at 0%, 20%, 40% or 45%, depending on how much you earn, many don’t know that an interaction with a reduced Personal Allowance can create an effective 60% tax rate. So, let’s have a look at how this happens and what we can do to avoid it.

How it happens

When it comes to income tax, each individual has a Personal Allowance. This is the first £12,570 of your income which is taxed at 0%. However, once your income goes over £100,000, you lose £1 of your Personal Allowance for every £2 of income over £100,000. This means that once you earn over £125,140, you don’t have any Personal Allowance, resulting in more of your money being taxed. This produces an effective 60% tax rate for income between £100,000 and £125,140.

How to beat it

If your income is going to go over £100,000, a great way to beat the 60% tax trap is to make a contribution to your pension. When you do this, you extend the band of income which is taxed at 20%. This results in an overall tax saving of 60% of the gross value of the pension contribution.

If your employer offers a salary sacrifice scheme, this may be an even more efficient way of beating the tax trap as you save on 2% National Insurance too! Some employers even share a proportion of the employer’s National Insurance they save on the contribution.

As a reminder, you can pay a maximum of £60,000 into your pension each year before you lose tax relief on your contributions.

Tax is tricky, talk to an expert!

Tax laws are always changing, and everyone’s financial situation is unique. A good business advisor can help you navigate the world of tax and stay ahead.

Additionally, having an ongoing relationship with an adviser can help to manage unexpected windfalls, such as bonuses, in a timely manner, making sure you don’t miss out.