We all know what income tax is. Or at least we think we do. It is clearly tax paid on what we earn, but so many of us do not really know the finer details. We don’t know what we pay and why. Or how it is worked out. Read on to see income tax explained.
Income Tax Explained – What Is It?
The government charge income tax on virtually all income. Wages from your employer, profits, rent if you are a landlord, or even pension payments. It is not quite that simple however. And what tax institutions take varies greatly according to circumstances.
It varies because not all income is taxed. Virtually everyone qualifies for one or more allowances that sees them not pay tax on every penny they earn. To put it another way, some of our earnings tend to be tax-free! And that amount varies from year to year due to government policy and other personal factors.
The Current Situation
Currently the tax allowance is set at £12,500 in the UK. This means that the first £12,500 of anyone’s income each year is exempt from income tax. So if you earn £20,000 in a year, you pay income tax on £7500.
However, the income threshold for personal allowance is £100,000. Marriage allowance is £1250, which i will cover in a separate article. The tax year begins on the 6th of April.
What is a Personal Allowance?
Everyone has a personal allowance. The amount you earn before you have to pay tax. This allowance may increase and be larger than £12,500 should you claim Marriage Allowance or Blind Person’s Allowance. It can even be reduced due to certain circumstances. An example would be owing tax from a previous tax year.
The tax year runs from 6 April, and for the 2020-21 tax year the standard Personal Allowance is £12,500. After that it will be indexed with the Consumer Price Index (CPI) from then onwards. Should you earn less than this, you normally shouldn’t have to pay any Income Tax.
The amount of the Personal Allowance you receive is set by the government and can change from one year to the next. In recent years the government has raised the allowance, which is of course a benefit to all workers.
For people earning over £100,000, the figure of £12,500 will be reduced by £1 for every £2 you earn. Thus, anyone who earns £125,000 or more pays income tax on all earnings and there’s no tax-free allowance.
Income Tax Explained – The Point Of Income Tax
Naturally governments need to collect taxes to pay for services and to run the country. Income tax is the main provider to them. It funds public services and the NHS, education and more.
Bands
Once you get past the personal allowance figure, you pay a 20% tax rate for further earnings. This is referred to as the basic rate. But the more you earn, the more tax you pay, and the more the percentage goes up. Most governments deem this the fairest system. Those that earn above £50,000 have to pay a 40% tax rate. And the final rise is seen for those that earn above £150,000. The rate for such people rises to 45%. The personal allowance is also not utilised by such earners.
Anyone can go on the government website and use handy calculators to work out what tax they can expect to pay.
