Why is this important?
This information applies to England, Wales, Scotland and Northern Ireland
- What is income tax
- How income tax is calculated
- Income on which tax has already been paid
- National insurance contributions
- Record keeping
- How HM Revenue and Customs collects income tax
Income tax is a tax paid on income. It is paid by employees and people who are self-employed. It may also be payable if you aren't working if, for example, you have an income from a pension or savings. Not all types of income are taxable and it will seldom be the case that all of your income is taxed. There is no minimum age at which a person becomes liable to pay income tax. What matters is the amount of your taxable income. If this is below a certain level, no tax is payable.
Income on which tax has to be paid includes:
- earnings from employment, including benefits in kind
- earnings from self-employment
- most pensions income, including state, occupational and personal pensions
- some social security benefits
- interest on most savings
- income from shares (dividends)
- rental income
- income from a trust.
For more information about which kinds of income are taxable, see Taxable and non-taxable income.
To calculate roughly how much income tax is payable for a particular tax year, use the following steps. The income tax rules are complex so this will not necessarily give you the precise answer in every case:
Step 1 Add together all your taxable income, before tax, from all sources, including employed earnings and self-employed profits, taxable social security benefits, income from renting out accommodation, pensions and interest from bank and building society accounts, for that year. Exclude non-taxable income such as housing benefit, pension credit, maternity allowance, child benefit, child tax credit and working tax credit, disability living allowance, premium bond prizes and lottery winnings. For a full list of tax-free income see Taxable and non-taxable income. You must use gross amounts in Step 1, that is, the amount of taxable income before any tax was deducted.
Step 2 Check whether you can claim tax relief for any money you have spent out over the year. For example, on your contributions towards a retirement annuity (but not on pension contributions where tax relief is given at source – these are taken into account in Step 4) or for paying certain employment expenses. Take these off here. If you are self-employed, business expenses are deducted before reaching your taxable profit.
Step 3 Check which tax allowances you are entitled to. If you live in the UK on a day to day basis, you will be entitled to a personal allowance, unless your income is over £100,000. You may also be entitled to a larger personal allowance, depending on the date you were born, and depending on the amount of your income, and you may be entitled to Blind Person's Allowance (or to the surplus of your spouse’s Blind Person’s Allowance). These allowances are deducted at this stage in the calculation, leaving an amount of income on which tax is payable. This amount is called your taxable income.
For more information about tax allowances, see Income tax allowances and amounts.
Step 4 To calculate the tax payable for 2013/14, you should:
- calculate tax on your taxable income up to the limit of £32,010 at 20%. Savings income will, in some circumstances, only be taxable at 10%, even if your bank or building society has taxed it at 20% so a repayment may be due, then
- if you have taxable income over £32,010, calculate tax on the taxable income over £32,010, and up to £150,000 at 40%, then
- if you have taxable income over £150,000, calculate tax on the taxable income over £150,000 at 45%, then
- add the last three figures together. This is the amount of tax that is payable for 2013/2014 but
- from 7 January 2013, if your household is receiving Child Benefit and one member of the household has income above £50,000, they may have to pay extra tax in addition to the amount above. For more information, see Child Benefit and tax if you have a high income.
Example: Your taxable income is £11,000 after deducting your personal allowance from your total income.
You have no taxable income above £32,010, so you pay tax at the basic rate of 20% on all your taxable income.
20% X £11,000 is £2,200.
For more information about savings income, see Income tax rates.
You can find out more about income tax rates on the GOV.UK website at: www.gov.uk
You should now be able to work out the amount of tax due for the year, unless you are entitled to Married Couple's Allowance (see Step 5). When you have calculated the total tax due, take off tax already paid – that is, PAYE tax deductions from employment earnings and occupational pensions, and tax deducted at source from savings income.
Step 5 If you are married or in a civil partnership, and one of you was born before 6 April 1935, Married Couple's Allowance will be due. For marriages before 5 December 2005, the husband should claim the allowance, for marriages and civil partnerships made on or after 5 December 2005 the spouse or civil partner with the higher income should claim it. (It is possible for spouses or civil partners to share the minimum part of the allowance but, unless you married or registered your civil partnership during the tax year, you must have contacted HMRC about this before the start of the tax year). If you are claiming the allowance, 10% of the Married Couple's Allowance is deducted from your tax bill at this stage.
For more information about claiming Married Couple's Allowance, see Income tax allowances and amounts.
Following these steps may not give the right result if:-
- you are self-employed and have made a loss for the year
- you are over 65, you make charitable payments under Gift Aid and your age-related personal allowances are reduced because of the level of your income
- you have overseas income that is taxed abroad.
Income that is not taxable
Some income is not taxable, which means that tax is not paid on it. This income should therefore be ignored when estimating how much tax is payable. Examples of income which is not taxable include premium bond prizes, Housing Benefit and Child Benefit.
For a list of income which is not taxable, see Taxable and non-taxable income.
If you live in the UK on a day to day basis you are entitled to a basic personal tax allowance, unless your income is over £100,000 a year. You may also be entitled to other allowances on top of the basic allowance. This means that some of your income, which would otherwise be taxable, will be tax-free.
You may be entitled to a larger personal tax allowance, depending on whether you were born before or after 6 April 1948.
If you are an employee and so are taxed under Pay As You Earn (PAYE), your personal allowances will be spread throughout the year, so that each week or month you will have a certain amount of tax-free income and then pay tax on the remainder.
If you are self-employed or have taxable income but are not working, your personal allowances will be taken into account when your tax bill is calculated after you have sent in your annual tax return or repayment claim.
For information about tax allowances and who can claim which allowances, see Income tax allowance and amounts.
In addition to personal tax allowances, income spent on certain things, for example, professional subscriptions or the cost of the tools of your trade, can be deducted when calculating tax. This is known as tax relief on outgoings. These reliefs reduce the amount of your taxable income so you pay less tax.
Tax reliefs for employees are spread throughout the year in the same way as personal tax allowances. Tax reliefs for self-employed people and people who have taxable income but are not working are taken into account when their tax bill is calculated after they have sent in their annual tax return or repayment claim.
For more information about tax reliefs, see Tax reliefs.
Income tax rates
Income is taxed at different percentage rates, depending on the amount of taxable income and the source of the income. These rates are announced in the Budget every year.
For more information on income tax rates, including rates for past years and how to calculate how much tax is payable, see Income tax rates.
When you're calculating the tax due, you need to work out whether or not you have received any income on which tax has already been paid. For example, interest on savings in a building society or bank account, where the interest is paid to you after the bank/building society has taken the tax off it. Payments from employment or an occupational pension may also have had tax taken off before the payment was made to you.
When you're working out the total tax due for the year, you need to take into account the fact that tax has already been paid on this income. The gross amount of this income (that is, the amount you have received plus the tax deducted) is taken into account when calculating your total taxable income before personal allowances and tax reliefs are taken off.
As well as checking that the correct tax has been taken off your pay, you can also check that the correct national insurance contributions have been deducted, so leaving you with the correct take home pay. National insurance contributions are calculated on gross income. For employees they are deducted at different rates depending on your pension arrangements and on your level of income.
If you are self-employed you pay National insurance contributions at different rates, depending on your profits.
For help in calculating your national insurance contributions in order to work out your take home pay, an experienced adviser should be consulted, for example, at a Citizens Advice Bureau. To search for details of your nearest CAB, including those that can give advice by e-mail, click on nearest CAB.
If you are a taxpayer, you must, by law, keep records of your income and any expenses you claim against tax. You will need these records if the tax office asks you to complete a tax return. You must keep personal or non-business records for 22 months after the end of the tax year to which they relate, and you must keep business records for 5 years and 10 months after the end of the tax year to which they relate.
Deduction of tax at source
Most taxpayers pay their tax through deductions that are made from their income before they receive it. This is called deduction at source.
Some of the most common examples of deduction at source are PAYE, see below, and bank and building society interest, see below
Pay As You Earn (PAYE)
By law, anyone making payments to employees or members of occupational pension schemes is obliged to operate the PAYE system. This means they must deduct income tax and class 1 national insurance contributions from the payments that they make, and must send these sums to HM Revenue and Customs (HMRC).
You are entitled to receive written confirmation of deductions that have been made by:-
- payslips, showing gross pay, deductions made and net pay if you are an employee; and
- a P60 certificate at the end of each tax year, confirming the amount of gross earnings or pension, and any income tax and class 1 national insurance contributions deducted; and
- a P45 certificate whenever you change jobs, which shows the pay and tax in the job you are leaving, the tax code operating on your earnings at the time you left and, in some cases, the earnings and income tax deducted in the tax year to date.
For more information about PAYE and notifying the tax office about taxable income, see The Pay As You Earn (PAYE) system.
Bank and building society interest
Banks and building societies deduct income tax from the interest paid on most deposits made with them by individuals, and pay this over to HMRC. This is done before the interest is paid into your account.
The bank or building society must confirm the amount of interest earned in each tax year and the amount of income tax deducted. The bank or building society must give you the information free of charge if you ask for it. A number of banks and building societies send these details to all their investors each year, as a matter of course. Statements and pass books may also show this information.
If you do not need to pay any tax on this interest, for example, because your total taxable income from all sources falls below your personal tax allowances for the tax year, you can arrange to receive your interest gross, that is, without deduction of any tax. You should ask your branch of the bank or building society for form R85, which you must complete and return to the branch. Interest will then be paid without tax deduction, avoiding the need to claim a tax refund.
Collection of tax by Self Assessment
Tax will have to be paid to HMRC direct through the system of Self Assessment where the full liability was not, or could not be, met by deduction at source. This will happen with, for example:
- profits from self-employment
- rental income from property
- interest received gross, for example, on National Savings investments accounts
- income from overseas
- employment-related benefits in kind
- receipt of Child Benefit where a member of the household has taxable income of over £50,000 from 7 January 2013. For more information, see Child Benefit and tax if you have a high income.
The Self Assessment process
If you have to pay your tax through Self Assessment because, for example, you are self-employed, then you must fill in an annual tax return. HMRC will calculate your tax bill based on the figures in your tax return but you can work out the amount of tax due yourself if you want to, but HMRC will do the calculation.
Paying tax under Self Assessment
If you send in a paper tax return by the filing date of 31 October following the end of the tax year you will be sent a tax calculation. HMRC will follow the calculation with a statement of account, which is like a tax bill, in time for the due date for payment of 31 January. If you file an online return, your tax bill is calculated automatically. The online filing date and the due date for payment is the same, 31 January following the end of the tax year.
For information about tax returns, see Tax returns.
For more information about Self Assessment, see Self Assessment.
If you need help with the Self Assessment process, you should contact HM Revenue and Customs, or consult an experienced adviser, for example, at a Citizens Advice Bureau. To search for details of your nearest CAB, including those that can give advice by e-mail, click on nearest CAB.