As we approach the end of the tax year, it’s crucial for dentists earning above £100,000 to understand the implications of losing the personal allowance and its broader effects, including the eligibility for 30 free hours of childcare. This article aims to unravel these complexities and offer strategic insights into mitigating their impact.
The £100,000 Threshold: A Double-Edged Sword
Crossing the £100,000 income threshold in the UK is a testament to your professional success but also brings significant tax implications. Most notably, you begin to lose your personal allowance – the amount you can earn tax-free each year.
Understanding the Loss of Personal Allowance
For every £2 you earn over £100,000, your personal allowance decreases by £1. This gradual reduction continues until your income reaches £125,140, at which point the personal allowance (£12,570 for 2023/24) is completely lost.
Example: Dana’s Dilemma
Dana earns £110,000. Here’s how her tax situation unfolds:
Income over £100,000: £110,000 – £100,000 = £10,000.
Reduction in Personal Allowance: £10,000 / 2 = £5,000. Her £12,570 allowance is reduced by £5,000, leaving her with only £7,570 as a personal allowance.
Tax on Income over £100,000: Dana pays tax at 40% (England & Wales) on the £10,000 excess, equalling £4,000.
Additional Tax due to Reduced Allowance: 40% of the £5,000 reduction in personal allowance equals £2,000.
Total Extra Tax: £4,000 (on excess income) + £2,000 (due to allowance reduction) = £6,000.
Thus, on the £10,000 earned over £100,000, Dana pays £6,000 in tax, an effective tax rate of 60%.
Scottish Variation
In Scotland, due to different tax bands, the effective tax rate can increase up to 63% for similar earnings.
Childcare Implications
Earning over £100,000 also affects eligibility for government benefits, like the 30 free hours of childcare in England. This can significantly impact family budgets, especially for those with young children.
Mitigation Strategies: Reducing Tax Liability
As we are nearing the tax year-end, now is the time to consider strategies to reduce your tax liability and maximise the use of available allowances.
- Pension Contributions: Contributing to your pension can be one of the most tax-efficient ways to reduce your taxable income. Contributions to pension schemes like the NHS Pension Scheme are made before tax, reducing your overall taxable income. If you’re considering private pensions alongside the NHS Pension Scheme, seek financial advice to ensure compatibility.
- ISA Investments: Utilise your annual ISA allowance. Money placed in an ISA is free from income tax and capital gains tax, offering a tax-efficient way to save or invest.
- Salary Sacrifice Schemes: Engaging in salary sacrifice schemes, such as additional pension contributions or childcare vouchers, can reduce your taxable income. However, consider the impact on pension calculations and loan/mortgage applications.
- Charitable Donations: Making donations through Gift Aid allows you to get tax relief, as charities can claim an extra 25p for every £1 donated. If you pay tax at a higher rate, you can claim back the difference between the rate you pay and the basic rate on your donation.
- Spreading Income: If you have a private practice or other sources of income, consider spreading this income across tax years to keep below the £100,000 threshold.
- Limited Company Formation: Forming a limited company for private work can offer more flexible and tax-efficient ways to manage income, although this comes with additional responsibilities and compliance requirements.
- Deductible Expenses: For those self-employed, certain deductible expenses can reduce taxable income.
- Capital Gains Tax Allowance: Utilise your annual Capital Gains Tax allowance. Consider selling assets that have increased in value before the tax year-end to utilise this allowance.
- Tax-Free Allowances: Make sure you’re utilising all your tax-free allowances, including the personal savings allowance and dividend allowance.
- Reviewing Your Tax Code: Ensure your tax code is correct. Errors in your tax code could result in paying more tax than necessary.
Timing is Everything: Act Before the Tax Year Ends
Utilise available strategies before the tax year’s end. Certain allowances, like pension contributions and ISA investments, are time-sensitive and don’t carry over.
Forward Thinking for Financial Health
Navigating the UK’s complex tax system as a dentist demands proactive planning. Understanding the impact of crossing the £100,000 income mark and implementing tax mitigation strategies can lead to more efficient financial management. Remember, this article is for informational purposes, and consulting with a financial adviser is recommended for personalised advice.
Disclaimer
The information provided herein is based on current tax laws and regulations, which are subject to change.
The Financial Conduct Authority (FCA) does not regulate tax advice.
Please be aware that the value of investments can fall as well as rise, so you could get back less than you invest. Past performance is not a reliable indicator of future results.
Content correct at time of writing.