5 ways to be more Tax Efficient Today – Especially if you are a Higher Rate Taxpayer

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As we near the end of the 21/22 tax year it is a good idea to think about becoming more tax efficient, especially for higher rate taxpayers.  Having a plan now will affect both this tax year and future ones.

Hi, I’m Anna Goodwin, your friendly finance mentor. With over 30 years of experience, I know how important and beneficial it is to be tax efficient.

The first thing you need to do is to find out if you are a Higher Rate Taxpayer.

Are you a Higher Rate Taxpayer?

Remember to include all your income. Have a think of every single type of income you receive.  This could include:

  • Employed income
  • Self Employed income
  • Rental income
  • Air bnb rental income
  • Partnership income
  • Pension(s)
  • Dividends
  • Interest received

Total it all up and look at the rates below to see the band you fall into before you start looking at how to become more tax efficient.

Income Tax rates and bands

Band

Taxable income

Tax rate

Personal Allowance

Up to £12,570

0%

Basic rate

£12,571 to £50,270

20%

Higher rate

£50,271 to £150,000

40%

Additional rate

over £150,000

45%

If you earn over £120k, your personal allowance is reduced by £1 for every £2 you earn over £100k.  Therefore, if your taxable income is £120k, your personal allowance will be reduced to £2,570.

Here’s how you work it out:

Personal allowance = £12,570

£120k-£100k = £20k (on £120k, you receive £20k over £100k)

Personal allowance reduced by £1 for every £2 over £100k = (20,000/2) x 1 = £10k

Personal allowance if your income is £120k = £12,570 – £10,000 = £2,570

You do not get a Personal Allowance on taxable income over £125,140.

When you look at this table you can see why its important to do some planning now – otherwise you could lose a significant amount of your salary in tax. But don’t be blinkered and only look at maximising how you become more tax efficient – remember your own financial goals.

How you can reduce your taxable income to be more tax efficient

There are several ways that you can be more tax efficient by reducing your taxable income which include:

  • Pension
  • ISA
  • Gift aid
  • Salary sacrifice
  • Investments

Pensions

Saving money into a pension reduces your salary for income tax purposes. The contribution limit for the 21/22 tax year is 100% of your annual earnings or £40k – whichever is lower. Remember this £40k includes contributions made by you and your employer.

Tax relief is paid at the same rate you pay income tax.

For example:

A 20% tax payer would only need to pay £8k into a pension to make a £10k pension contribution.

Getting the tax relief to be more tax efficient

This is automatic if your:

  • employer takes workplace pension contributions out of your pay before deducting Income Tax
  • rate of income tax is 20% – your pension provider will claim it as tax relief and add it to your pension (‘relief at source’)

 

Claiming additional tax relief will need to be through your Self Assessment tax return and will be:

  • 20% up to the amount of any income you have paid 40% tax on
  • 25% up to the amount of any income you have paid 45% tax on

If you don’t prepare a Self Assessment return, then you can call or write to HMRC – just put some time aside if you are ringing them!

The disadvantage of making pension contributions is that your money is tied up until the age of 55.  This will be something else you will need to take account of when you are planning.

ISAs

If you invest within a Stocks & Shares ISA (Individual Savings Account), all of the capital gains, dividend income and interest are tax free.  The ISA allowance is £20k per person.  When you have used up your own allowance you could deposit money into a Junior ISA – the allowance is £9k per annum. But take care as on the child’s 18th birthday, all of the money in the Junior ISA becomes theirs!

Gift Aid

Donating through Gift Aid enables the charity to claim an extra 25p for every £1 donated.

For example:

Donating £100 means the charity can claim 25% which will increase the donation to £125.

It is also beneficial for you if you’re a higher rate taxpayer as you can claim back the difference between your tax rate (40-45%) and the basic rate (20%).

Using the £100 example:

You can reclaim 20% of £125 (40%-20% = 20%) and thereby reduce your tax bill by £25.

Salary sacrifice

This is a possibility if your employer offers a salary sacrifice pension scheme.

Here are some advantages:

  • Your salary sacrifice won’t be subject to income tax or national insurance contribution payments.
  • Your employer might continue to pay their national insurance contributions in full, with the element linked to your salary sacrifice also going towards your pension.

 

Going back to the personal allowance table, if you can reduce your salary in this way then you may be able to retain your personal allowance or at least some of it and then you may enter a lower tax bracket.

 

Of course, the downside of this is that you will have less money to live off so you will need to check that you can afford it!

Investments

If you are an experienced investor then you may want to invest in venture capital schemes. 

The 4 venture capital schemes are the:

  • Enterprise Investment Scheme (EIS)
  • Seed Enterprise Investment Scheme (SEIS)
  • Social Investment Tax Relief (SITR)
  • Venture Capital Trust (VCT)

The tax breaks included in these schemes will vary.

To make these investments you need to be happy with taking risks and of course be able to afford it!

As you can see, there are things that you can do to reduce the tax you pay as a higher rate taxpayer. 

A word of caution – if you are deciding to look into making tax efficiencies, I would always recommend speaking to a Financial Planner.  Good luck!

 

Next time we will be looking at strategic planning for 2022.