Workers earning from £15,000 to £120,000 a year are being hit by absurd tax traps that penalise them for doing their job well.
Most of us are under the impression that the top tax rate you could face is 45 per cent, but a smattering of sneaky anomalies in the tax system mean that, in reality, workers on some incomes can pay a marginal tax rate of 79 per cent — or even 200,000,000 per cent in one extreme case.
This means that earning just 1p extra could cost them £20,000.
Hundreds of thousands of families face a marginal rate of tax upwards of 55 per cent because they fall foul of child benefit rules that rob them of entitlement as they climb up the income scale.
Penalised: Hundreds of thousands of workers earning from £15,000 to £120,000 a year are being hit by absurd tax traps
These cliff edges in the tax system will remain no matter the General Election outcome.
The Labour Party has not indicated it would correct any of the long-standing tax anomalies.
But beware — some parties (spoiler: the Green Party) have policies that would make the already complicated system even worse.
We asked tax experts for a definitive list of the income levels where a wage increase or bonus would leave you paying a hefty amount to the tax man.
£9,000 to £15,000: Marginal tax rate 67%
Workers earning £15,000 can end up paying a far higher marginal rate of income tax than someone on ten times their salary at £150,000 — or even those taking home millions.
The lowest earners may even find themselves paying a higher marginal rate than Prime Minister Rishi Sunak.
According to his latest income summary, which was published by Downing Street, Mr Sunak earned a ministerial salary of £55,358 alongside his MP’s salary of £84,119 last year.
However, the PM’s total income across his earnings and various assets, such as his savings and investments, totalled £2.2 million, on which he paid a rate of just 23 per cent — or £508,308.
Lower earners could be hit with higher marginal rates because they are subject to a taper, which is the amount of benefits they lose as their earnings increase.
The taper rate for Universal Credit is 55 per cent, which means someone claiming the credit who earns £9,000 a year from a part-time job will take home just 45p of every extra £1 they earn.
Tax trap: More than 600,000 middle-income families face a marginal rate of tax upwards of 55% because they fall foul of child benefit rules
Those earning enough to pay income tax — £12,570 a year — who still receive Universal Credit will face even higher marginal tax rates because they will also pay 20 per cent in income tax.
Once accounting for National Insurance too (8 per cent), they would take home 33p in every extra £1 they earn — an effective tax rate of 67 per cent.
Robert Salter, of tax firm Blick Rothenberg, says: ‘This anomaly is ridiculous and immoral. If you think 45 per cent should be the highest rate of tax then why are you charging people on a lot less 55 per cent?
‘In many cases, people in this situation will not think it is worth taking on the extra hours.’
£60,000: marginal tax rate 72.5%
Young families with one higher earner face some of the worst tax rates of all.
Child benefit, which helps with the costs of raising children, typically pays £25.60 a week for your first child and £16.95 a week for any children after that.
From 2013, the amount of child benefit you could receive started to decrease when one parent earned £50,000 and was entirely clawed back from £60,000 a year.
However, under reforms unveiled in his Spring Budget, Mr Hunt raised the threshold to £60,000 from April and cut the rate at which the fee is charged in half.
This means child benefit is no longer fully withdrawn until a parent earns £80,000 or more.
Parents earning between £60,000 and £80,000 will still have a high effective rate of tax of 56.5 per cent due to the child benefit charge, according to Dan Neidle, a City lawyer at Tax Policy Associates.
On top of that, anyone who started university from 2012 onwards and earns more than £27,295 a year will pay an effective tax rate of 9 per cent on top of their other taxes, rising to 15 per cent, for those who took out tuition loans for their undergraduate and postgraduate degrees.
This could bring their marginal rate up to 71 per cent in the worst case scenario, taking home just 29p in the pound.
Mr Salter says: ‘How can it be morally right to charge families this because they have children?
‘There’s going to be a massive chunk of graduates earning that sort of money and they could easily repay 15 per cent of their salary on student loans assuming their parents didn’t help them.’
The Tory manifesto promises to fix the tax anomaly so parents earning between £60,000 and £80,000 face higher marginal rates by moving the crucial threshold to £120,000.
The Labour Party has no plans to change this tax penalty, though. And parents earning in this bracket would face even higher charges under the Green Party.
Their manifesto lays out plans to add 6 per cent tax for those earning more than £50,000.
Mr Neidle says: ‘It’s hilarious the party was going to forgive student loans until they realised they couldn’t afford to.
‘Instead they would end up creating a tax rate of 72.5 per cent for a graduate with three children earning £60,000.’
Squeezed: Workers earning £15,000 can end up paying a higher marginal rate of income tax than someone on ten times their salary at £150,000 — or even those taking home millions
£100,000: marginal tax rate 200,000,000%
The most outlandish tax trap that leaves families worse off if they take a 1p pay rise was introduced this year.
Under reforms designed to keep more women in work, parents earning £99,999.99 could miss out on £20,000 worth of free childcare if their salary grows by as little as 1p. In extreme cases, parents would need to earn £140,000 to recover the losses if they live in London, Mr Neidle claims.
As of September, parents with children between nine months and two years old will be entitled to 30-hours a week of free childcare.
But where one parent earns a taxable income above £100,000 a year, they will not qualify. This loss of £20,000 for a 1p salary increase translates to a marginal rate of 200,000,000 per cent, according to Mr Neidle.
It is the only tax cliff edge at which workers are worse off if they get a raise.
He says: ‘It is terrible. If you earn just 1p more, you could see a massive drop which you don’t recover until you earn about £140,000 or more in some cases.
‘It’s also problematic if an accountant, estate agent or telephone sanitiser turns away work because of high marginal rates — it represents lost economic growth and lost tax revenue.’
The tax trap creates an incentive for working parents to refuse to take on more hours of work, Mr Neidle adds.
‘We’ve received many reports saying that high marginal rates affecting senior doctors/consultants are an important factor in the NHS’s staffing problems.’
The Institute for Fiscal Studies warns some are reducing their work hours and pay to remain below the £100,000 threshold.
Those who are concerned about breaching the threshold can pay more into their pension to lower their taxable income. This means they can accept the money without losing free childcare.
Most employers offer an agreement called ‘salary sacrifice’ for workers to add a larger portion of their salary directly to their pension before it is taxed.
This is extremely tax-efficient, as the salary exchanged is not liable to income tax or National Insurance. The employer may agree to match the contribution, too.
Parents who are near the threshold can also make charity donations to avoid losing the free hours of childcare and still be better off than if they had taken the pay rise.
The basic-rate tax band increases by the value of the charitable gift, meaning that anyone donating the extra income they make above £100,000 pushes their taxable income to below that level.
£120,000: marginal tax rate 79%
A promise by the Tory Party to remove a tax cliff edge for middle earners could inadvertently create a new ultra-high tax rate for those earning between £120,000 and £125,000.
Parents with three children earning this amount would face an effective rate of 70 per cent, Mr Neidle says. This is because you lose £1 of your personal allowance for every £2 you earn above £100,000.
It means those earning between £100,000 and £125,140 face an effective 60 pc tax rate.
Coupled with the child benefit taper, parents are hit with taxes of 70 per cent, rising to 79 per cent for graduates.
The tax rate falls back to 55 per cent for those earning between £125,000 and £160,000 as the full personal allowance is lost.
Mr Neidle says: ‘It’s a mystery to me why the Conservative manifesto didn’t set the new high-income child benefit charge at £125,000 as you would avoid the 70 per cent tax rate.
‘The most plausible reason is that they were defeated by the complexity of the tax system. It’s darkly funny that not even the Tories understand it.’
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