An overview of how income is taxed
Introduction
This briefing provides an overview of how income tax is calculated including the different sources of income, allowances and rates and bands.
Core considerations
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Income Tax is levied on an individual’s total taxable income from different sources including employment, profits from a business, interest on savings, income from property and dividends from investments.
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An individual’s income tax liability in any tax year is determined by subtracting various allowances from total income to arrive at a taxable income. Taxable income is divided into bands, each successive one with a higher tax rate.
Contents
- Sources of income
- Income Tax rates and bands
- Income Tax Allowances
- The Personal Allowance
- The Marriage Allowance
- The Married Couples Allowance
- The Blind Person’s Allowance
Sources of income
Income tax is levied on an individual’s total taxable income from different sources.
Non-savings income includes:
- earnings from employment, including profits made where an individual is self-employed;
- benefits received whilst employed, such as P11D benefits;
- some state benefits such as the Bereavement Allowance and Job Seekers Allowance;
- most pension income, including state pensions, company and personal pensions and retirement annuities;
- rental income from properties
Pay As You Earn (PAYE) is the system an employer or pension provider uses to take income tax and National Insurance contributions before they pay a salary or a pension.
Taxable savings income (i.e. interest) is taxed after non-savings income. The tax rates that apply to savings income depend on how much other non-savings income an individual has.
Income Tax rates and bands
The amount of income tax an individual will pay each tax year will depend on how much income is above their personal allowance and how much income falls within each tax band.
The table below shows the tax rates for England and Wales in each band if an individual has a standard personal allowance of £12,570, for the tax year 2024/2025.
| 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 £125,140 | 40% |
| Additional rate | Over £125,140 | 45% |
The income tax rates and tax bands in Scotland for the 2024/2025 tax year are:
| Band | Taxable income | Tax rate |
|---|---|---|
| Personal allowance | Up to £12,570 | 0% |
| Starter rate | £12,571 to £14,876 | 19% |
| Basic rate | £14,877 to £26,561 | 20% |
| Intermediate rate | £26,562 to £43,662 | 21% |
| Higher rate | £43,663 to £75,000 | 42% |
| Advanced rate | £75,000 to £125,140 | 45% |
| Top rate | Over £125,140 | 48% |
For example - basic rate taxpayer earning £37,500
| Income | Tax Band | Tax |
|---|---|---|
| Up to £12,570 | 0% | No Income Tax on first £12,570 |
| Between £12,571 and £50,270 | 20% | 20% Income Tax on the next £37,500 income (£37,500 - £12,570 = £24,930) Tax = £4,986 |
| Total tax paid | £4,986 |
For example – higher rate taxpayer earning £52,000
| Income | Tax Band | Tax |
|---|---|---|
| Up to £12,570 | 0% | No Income Tax on first £12,570 |
| Between £12,571 and £50,270 | 20% | 20% Income Tax on the next £37,700 income (£50,270 - £12,570 = £37,700) Tax = £7,540 |
| Between £50,271 and £125,140 | 40% | 40% Income Tax on the final £1,730 of income (£52,000 - £50,270 = £1,730) Tax = £692 |
| Total tax paid | £8,232 | |
For example - additional rate taxpayer earning £165,000
| Income | Tax Band | Tax |
|---|---|---|
| Personal Allowance | 0% | Johannes does not have a Personal Allowance as his income is over £125,140 |
| Between £0 and £37,700 | 20% | 20% Income Tax up to £37,700 income Tax = £7540 |
| Between £37,701 and £125,140 | 40% | 40% Income Tax on the next £87,439 of income (£125,140 - £37,700 = £87,439) Tax = £34,975.60 |
| Over £125,140 | 45% | 45% Income Tax on the final £39,860 of income (£165,000-£125,140 = £39,860) Tax = £17,937 |
| Total tax paid | £60,452.60 | |
Income Tax Allowances
Income tax is not usually payable on all taxable income as there are various allowances available which most people qualify for. An allowance is an amount of otherwise taxable income that an individual can earn each year, without paying tax on it. There are a few different allowances available to individuals.
Personal Allowance
Every UK resident is granted a standard personal allowance under which a certain amount of their income each tax year will not be subject to tax. Husband and wife and civil partners are entitled to their own personal allowance.
Those earning over £100,000 will see a reduction in their personal allowance, possibly to zero. The reduction applies irrespective of age. The personal allowance is reduced by £1 for every £2 of income more than £100,000. It is reduced to zero once the individual has taxable income of £125,140 or more.
For example
Henry has income of £11,500 – due to his Personal Allowance of £12,570, he does not pay Income Tax on his income.
Simone has income of £108,000. Because her income is over £100,000, her Personal Allowance will be reduced by £4000 as she has income of £8000 above £100,000. This means her personal allowance is £12,570 less £4000 = £8,570
Ahmed has income of £127,000. Because his income is over £125,140, his Personal Allowance will be reduced to £0. This is because there is a £27,000 excess over £100,000 and reduces the personal allowance by £13,500 – taking it down to nil.
Marriage (Transferable) Allowance (marriage allowance)
For individuals who are married or in a civil partnership, they may be able claim the marriage allowance to reduce their partner’s tax if their income is less than the standard personal allowance.
It can be claimed if all the following apply.
- They are married or in a civil partnership;
- Both spouse / civil partner was born on or after 6 April 1935;
- One individual, the lower earner, does not pay Income Tax, or their income is below the personal allowance; and
- One partner pays Income Tax at the basic rate, which usually means their income is between £12,571 and £50,270 before they receive the marriage allowance. In Scotland, one partner must pay the starter, basic or intermediate rate, which usually means their income is between £12,571 and £43,662.
Individuals who are receiving a pension and living abroad can also apply for the marriage allowance if they get the Personal Allowance.
An individual can transfer up to 10% (currently up to £1,260 for tax year 2024/2025) of their Personal Allowance to their spouse or civil partner. This reduces their tax by up to £252 (£1,260 x 20%) in the tax year. When an individual transfers some of their Personal Allowance they might have to pay more tax themself, but they could still pay less income tax as a couple.
Claims for this allowance can be backdated to include any tax year since 5 April 2018. The individual’s tax bill will be reduced depending on the personal allowance rate for the years that are being backdated. The percentage of the personal allowance will transfer automatically to the spouse or civil partner every year until HMRC are notified that their circumstances have changed. This can include where their income changes or the relationship ends.
For example - Marriage Allowance
John has income of £11,500. He does not pay tax on his income because it is below the personal allowance of £12,570. His spouse, Marcus, has income of £20,000 and pays income tax on £7,430, - the difference between his income and his personal allowance. As a couple they are paying income tax on £7,430.
John claims the Marriage Allowance transfer of £1,260 of his Personal Allowance to Marcus. John’s’ Personal Allowance reduces to £11,310 and Marcus gets a tax credit of £1,260 on his taxable income.
John will now pay tax on £190, this difference between his income of £11,500 and his new personal allowance of £11,310. Marcus now has taxable income £6,170.
As a couple they benefit, as Marcus is only paying Income Tax on £6,170 rather than £7,430, which saves him £214 in tax.
Married Couples Allowance
The Married Couples Allowance can be claimed if all the following apply:
- Both are married or in a civil partnership; and
- They are living together. The allowance can also be claimed if the couple can’t live together because of illness or old age, working away from home, there is an armed forces posting, being in prison or for training and education.
- One individual was born before 6 April 1935.
If the couple were married before 5 December 2005, the husband’s income is used to work out the entitlement to the allowance. For marriages and civil partnerships after this date, it is the income of the highest earner.
Couples who claim this allowance can receive tax relief at 10%, This allowance is used to calculate an amount to reduce an individual’s tax bill. It does not reduce the amount of taxable income on which tax is paid.
The allowance has a lower and upper limit on the amount of tax that can be claimed and how much can be earned. For the tax year 2024/2025:
- There is a minimum allowance of £4,280, a tax saving of £428, and a maximum allowance of £11,080. A tax saving of £1,080.
- There is a lower earnings limit of £37,000. The full allowance can be claimed if the earnings are less than this. Where income is more than £37,000, the allowance is reduced by £1 for every £2 of additional income over this threshold. If the husband or higher earner, whichever is relevant in the assessment of this allowance, has income of £50,600 or more their entitlement is limited to the minimum allowance of £4,280 (£428 tax saving).
For example - Married Couples Allowance
Geoffrey was born in 1931 and his wife was born in 1934. His income before allowances is £39,300. His income exceeds the allowance limit of £37,000. This entitlement will be reduced.
• Income before allowances - £39,300 minus the Income Limit of £37,000 = £2,300
• £2,300 / 2 = £1,150
• Maximum allowance of £11,080 minus Geoffrey’s deduction of £1,150 = £9,930
• Geoffrey can deduct £9,930 @ 10% or £993 from his 2024/25 tax bill.
Blind Persons Allowance
The allowance is an extra amount of tax-free allowance of £3,070 for tax year 2024/25. It is added to an individual’s Personal Allowance. This can also be applied to a spouse if both partners are eligible, and it can be transferred to a spouse / civil partner if an individual does not pay tax or does not earn enough to use all their allowance.
An individual can claim the Blind Person’s Allowance if both of the following apply in England and Wales:
- They are registered with their local council as blind or severely sight impaired
- They have a certificate that says they are blind or severely sight impaired (or a similar document from their doctor).
In Scotland and Northern Ireland, the allowance can be claimed if:
- The individual cannot do work for which eyesight is essential; and
- They have a certificate that says they are blind or severely sight impaired (or a similar document from their doctor)