Most people know that the higher rate of income tax is 40% and the additional rate is 45%. But fewer people realise that there is a hidden band between £100,000 and £125,140 where the effective rate of tax is 60%. This is caused by the personal allowance taper, and it catches a growing number of earners every year.
How the Taper Works
For every £2 you earn above £100,000, your personal allowance is reduced by £1. Since the personal allowance is £12,570, it is completely eliminated once your income reaches £125,140. The effect of losing £1 of allowance for every £2 of income is that you pay an extra 20% in tax on that income — on top of the 40% higher rate. That gives an effective rate of 60%.
In practical terms, someone earning £110,000 loses £5,000 of their personal allowance. This means an extra £1,000 in tax (20% of £5,000) compared to someone who kept their full allowance. On top of the normal 40% rate, the marginal rate on income between £100,000 and £125,140 is effectively 60%.
Strategies to Avoid the Trap
The most common strategy is to make pension contributions that bring your adjusted net income below £100,000. Pension contributions receive tax relief at your marginal rate, so a contribution made in the 60% band is extraordinarily tax-efficient — HMRC effectively pays 60% of the contribution for you.
Salary sacrifice into pension is even more effective, as it also saves National Insurance for both you and your employer. Charitable donations through Gift Aid also reduce your adjusted net income and can be used to avoid the taper.
Use our salary calculator to see how the personal allowance taper affects your take-home pay, and our pension calculator to model the impact of additional contributions.
M. Samiuddin QUADRI is a chartered certified accountant at Gladstone & Co. Accountants, advising high-income individuals on tax planning strategies.