Taxpayers are being prompted to take advantage of tax-free allowances to soften the blow from escalating income tax bills. Financial gurus at Hargreaves Lansdown anticipate that Chancellor Rachel Reeves may persist with the previous Government’s covert strategy, maintaining income tax thresholds as they are, so people quietly move into higher tax brackets as their income increases.
At present, individuals can have an income of up to £12,570 annually without owing any tax according to personal allowance rules. Earnings between £12,571 and £50,270 incur a 20% income tax rate.
Sarah Coles, personal finance lead at Hargreaves Lansdown, warned: “Rachel Reeves looks set to follow in the stealthy footsteps of the previous Government, by freezing the tax thresholds for even longer, which would take money out of our pockets by sleight of hand.”
She noted that “thresholds have been frozen since April 2022, and by 2028, there will be 3.7 million more taxpayers, 2.7 million more higher-rate taxpayers, and 600,000 more additional-rate taxpayers than if allowances and thresholds had been indexed to inflation and the additional rate threshold kept at £150,000.”
The higher rate of 40 percent applies for income between £50,271 and £15,140, with earnings above £125,140 attracting a 45 percent rate. You also gradually lose your personal allowance on earnings above £100,000, losing it entirely once you earn £125,140.
Ms Coles stated: “Every pay rise pushes more people into paying more tax – and means more will fall into higher tax bands. It has already been a massive cash cow, and it looks like the government is keen to milk it for even longer.”
However, she also highlighted two key tax-free allowances that could help keep down rising tax bills. One option is to contribute to pensions, as you can deposit up to £60,000 a year tax-free into your retirement savings.
Ms Coles explained: “You can pay into a pension or a SIPP (self invested personal pension). The annual pension allowance is now £60,000, and the fact you get tax relief at your highest marginal rate at the moment means higher earners in particular should look to take as much advantage as makes sense for their finances.”
For those accumulating savings that could eventually be subject to an income tax bill, another crucial allowance to remember is the £20,000 ISA allowance. ISAs are tax-free savings accounts, with no tax to pay on any investment growth or interest from an ISA.
You can save up to £20,000 a year split across multiple ISAs, including cash ISAs, stocks and shares ISAs, innovative finance ISAs, and Lifetime ISAs.
Ms Coles commented: “The best way to protect savings interest from income tax is to hold up to £20,000 a year in a cash ISA. If you have the money available now, it may make sense to open an ISA sooner rather than later, so you know where you stand.”
At the time of writing, several easy access ISAs offering rates of 4.8 percent or above were listed on moneyfactscompare.co.uk. Ms Coles shed light on another option for couples looking to optimise their tax situation.
She explained: “If you’re married or in a civil partnership and your partner pays a lower rate of tax, you can transfer income-producing assets into their name. It means you can both take advantage of your tax allowances.
“You can also use all the tax-efficient vehicles at your disposal, including your ISAs and pensions, as well as the Junior ISAs and Junior SIPPs of any qualifying children.”