Income Tax – rates, allowances and how it works
UK Income Tax is payable on any income you earn above a certain threshold, with a few important exceptions. Taxable income can include employment earnings, share dividends, interest earned on savings, pension income, rental income and income received from a trust.
Some types of income are exempt from Income Tax, including certain state benefits, Working Tax Credit and Premium Bond wins. You can also earn tax-free interest on your savings and investments by making the most of your annual ISA allowance.
What is the Personal Allowance?
Everyone in the UK has a Personal Allowance. This is the threshold above which you start paying Income Tax. Anything you earn up to that threshold is tax-free.
For the 2016/17 tax year, the standard Personal Allowance is £11,000. So if you earn £30,000 in that tax year, only £19,000 will be subject to Income Tax.
Your actual Personal Allowance might be different to this
- Your personal allowance can also be adjusted by the tax office – for example, to adjust the amount of tax you pay if you have overpaid in previous years, or have received benefits in kind from your employer.
- Depending on your circumstances, you may also be eligible for other reliefs, The Blind Person's allowance increases the amount that registered blind people can earn before paying Income Tax. If you were born before 1935, the Married Couples’ Allowance applies (for more information see our guide to tax in retirement).
High earners progressively lose the Personal Allowance
For every £2 you earn above the £100,000 threshold, you lose £1 of your tax-free allowance. This reduces the Personal Allowance to zero if your income reaches £122,000 or above.
Since you will also be paying 40% Higher Rate tax on these earnings, it means that on this narrow band of income there is an effective tax rate of 62 per cent.
Table of personal tax allowances
|Income Tax Allowances||Tax year 2016/17|
|Income Limit for Personal Allowance
(personal allowance is reduced by £1 for every £2 earned above the limit)
|Blind person's allowance||£2,290|
|Personal savings allowance||See below|
Income Tax rates
The rates of Income Tax you pay depend on how much you earn.
You only pay the rate on the portion of your income that is above each threshold. So if you earn £43,001 and have the standard Personal Allowance, you pay 0% on the first £11,000, Basic Rate on the next £32,000, and Higher Rate on the next £1. This explains the phrase “marginal rate of tax” – meaning the rate you will pay on the next £1 you earn.
Table of Income Tax rates
|Tax year 2016/17||Income tax rate||Rate on taxable dividends|
|Basic rate (earnings up to £32,000 above Personal Allowance)||20%||7.5%|
|Higher rate (earnings up to £150,000)||40%||32.5%|
|Additional rate rate (earnings over £150,000)||45%||42.5%|
From April 2016 there is a new Personal Savings Allowance (PSA) which means most UK adults will be able to earn up to £1,000 of savings interest every year without paying any Income Tax on it
The level of PSA depends on your income tax band, as follows:
|Tax band||Personal Savings Allowance|
|Basic rate taxpayer||Up to £1,000 savings interest tax-free|
|Higher rate taxpayer||Up to £500 savings interest tax-free|
|Additional rate taxpayer||£0 (no PSA)|
As a result, all savings accounts now pay you your interest gross – they don't deduct income tax at source. They report to the Inland Revenue how much they've paid to whom, so that your tax code can be changed if you end up owing income tax on interest in excess of your PSA.
Remember that you can also save up to £15,240 tax-free per year if you use your annual ISA allowance.
Last updated: 22 June 2016