Workers in the United Kingdom are required to pay taxes directly from their wages. Yet despite this, little is taught in the curriculum to prepare school leavers for paying taxes. Perhaps this is because there is less urgency for employees to learn about tax, as it is not their responsibility to file taxes.
Unlike some other countries, the UK has a streamlined system in which employers have the responsibility of filing taxes for their employees. HMRC have their own system called PAYE which employers can sign up to, to deduct taxes from their employee's wages.
Employees are sorted into tax brackets or tax codes based on their earned income. However, as employees don't take an active role in their Income Tax, they are often placed in the wrong tax code. Meaning they could, unbeknownst to them, owe taxes, or be due a tax rebate.
Self-employed workers on the other hand will have to file a tax return for themselves, confusing the matter further. This article will delve further into the issue of paying tax and tax-exempt income.
| Tax bands | Taxable income | Tax rate |
| Personal Allowance | Up to £12,570 | 0% |
| Basic rate | £12,571 to £50,270 | 20% |
| Higher rate | £50,271 to £150,000 | 40% |
| Additional rate | Over £150,000 | 45% |
It is important to note Scotland has a different tax code system than the rest of the UK.
| Tax bands in Scotland | Taxable income | Tax rate |
| Starter rate | £12,570-£14,667 | 19% |
| Scottish basic rate | £14,667-£25,296 | 20% |
| Intermediate rate | £25,296-£43,662 | 21% |
| Higher rate | £43,662-£150,000 | 41% |
| Top rate | £150,000+ | 46% |
Firstly there is a minimum gross income threshold an employee needs to make, before paying Income Tax. Anyone that earns less than £12,570 per tax year will have taxes withheld. This ensures those on lower incomes are not further burdened by taxes.
Thereafter the basic tax rate comes in at 20%. Meaning those with a gross income of more than £12,570 per tax year, will be subject to 20% Income Tax. The gross income cut-off for this rate for this tax bill is £50,270. After this, the tax bill doubles to 40%.
Employees with a gross income of more than £50,270 will be charged at this 40% tax rate. The gross income limit for this rate is £150,000. People with a taxable income of more than this will be placed in the highest tax bracket. This is 45%, meaning if you earn a gross income of more than £150,000, nearly half your wages go towards paying taxes.
This means that the minimum income threshold is £12,570. Any subsequent earnings after this will be charged at the minimum rate of 20%. The tax limit is capped at 45% after the £150,000 threshold. No matter how much income someone makes, they should not pay more than 45%.
What is tax avoidance?
According to HMRC there is a tax gap of around £31 billion in the UK. £4.6 billion being lost directly from illegal tax avoidance.
According to GOV.UK: "Tax avoidance involves bending the rules of the tax system to try to gain a tax advantage that Parliament never intended." It has been suggested that the UK is the biggest enabler of tax avoidance in the world. It means that the tax rate in the UK is as much defined by tax brackets, as it is someone's ability to bend the rules. More often than not, the best accountants can find wiggle room in the law, to substantially decrease Income Tax.
Much of the tax avoidance scandal was unearthed in 2016 by the 'Panama papers'. This showed even the queen had made offshore, (tax-exempt) investments. This is along with a multitude of politicians, celebrities, and business owners.
What do taxes pay for?
Although tax avoidance is at times legal, it is still seen by many as unethical. But, why is this? This is because of the tremendous benefit that taxes give to public services.
What exactly does it pay for? In the 2020 - 2021 period, £792 billion was spent - £200 billion came directly from Income Tax.
| Tax summary description | Description of PESA source (See PESA Table 5.2) | Public Sector Expenditure (£bn) | Percentage |
| Health | Health | 219.4 | 21.9 |
| Welfare | ‘Social Protection’ excluding state pensions | 196.0 | 19.6 |
| Business & Industry | Economic Affairs, without Transport | 143.8 | 14.4 |
| State Pensions | Within ‘Social Protection’ | 101.2 | 10.1 |
| Education | Education | 96.1 | 9.6 |
| Transport | Economic Affairs, without Business and Industry | 45.1 | 4.5 |
| Defence | Defence | 44.6 | 4.5 |
| National Debt Interest | Within General Public Services, but shown in more detail in table | 41.5 | 4.1 |
| Public Order & Safety | Public Order & Safety | 38.6 | 3.9 |
| Government Administration | Captured under General Public Services | 20.2 | 2.0 |
| Housing and utilities (e.g. street lights) | Housing & Community Amenities | 13.9 | 1.4 |
| Environment | Environment protection | 12.6 | 1.3 |
| Culture (e.g. sports, libraries, museums) | Recreation, Culture & Religion | 12.3 | 1.2 |
| Overseas Aid | Captured under General Public Services, | 8.6 | 0.9 |
| UK Contributions to EU budget 2020 - 2021 | EU Transactions | 5.8 | 0.6 |
By in large taxes go towards helping a country thrive and in theory the more the better. Of course, there are some that pay too much tax, especially school leavers.
What is emergency tax?
As established employees are not liable for taxable income unless they have a gross income of more than £12,570. However, new employees are often put into an emergency tax bracket. This is if they have no taxable income history, or if they have not given previous Income Tax history.
A person who has just started their first job may be shocked by their tax situation when they receive their first paycheck. This is because if they are placed in a BR tax code they will be charged at the basic rate of 20%. Even if they haven't achieved the gross income threshold.
A person is also often placed in emergency tax if they haven't given previous tax information to a new employer such as a P45. Similarly, previous self-employment Income Tax information is often not enough for new employers to place you in the correct tax code.
Common emergency tax codes include:
- 1100L W1
- 1100L M1
- 1100L X
- BR (20% tax)
- 0T (40% tax)
A number of online tax rebate services can help you reclaim any overpayment of Income Tax. Otherwise, the official HMRC has its own tax refund service.
Are there further Income Tax reductions?
Marriage Allowance
Those that are married filing jointly, or those that are in a civil partnership receive special taxes in that they are entitled to a discount. For example, if one member of the couple earns less than the gross income cut off of £12,570, they can transfer a £1,260 Personal Allowance discount to their partner.
The higher earner in the couple must sit within the basic gross Income Tax rate to be eligible. Scottish income thresholds are different so the highest earner of the relationship would have to be within the Intermediate rate to qualify.
Blind Person's Allowance
Your tax-free Personal Allowance can be raised by a further £2,520 if you or your spouse or civil partner is registered as blind. If you are both blind then you will both be entitled to this allowance.
This works in the same way as the Marriage Allowance as you can transfer this discount to the higher earner when they pay taxes.
Trading and Property Allowances
You do not owe taxes on earned income from selling, freelance work, or money made from property up to a limit of £1000. This exemption is known as the trading allowance.
For example, people that rent their driveway or let their homes for short periods may benefit from this.
Maintenance payments: tax relief
In some cases after divorce, an ex-spouse may be entitled to Income Tax relief when a former spouse files for maintenance payments. People that qualify for a reduction on this tax liability include:
- Those that were born before 6 April 1935
- When someone is paying maintenance under a court order post-divorce
- The ex-spouse has not re-married
- They are paying for a dependent child under 21
According to HMRC: "Maintenance Payments Relief is worth 10% of the maintenance you pay to your ex-spouse or civil partner, up to a maximum of £353 a year (or 10% of £3,530)."
Self-employment tax is charged at the same rates as employed staff with standard deductions. However, it can be more complex for them, as they need to file their own tax return providing all tax filing requirements.
However, those that set up a second part-time business or 'side hustle' are entitled to a limited exemption. If this side hustle earns less than £1000 per year then you do not have to file a tax return for it. Otherwise, you will need to file a tax return with the HMRC known as Self Assessment.
Summary
Employees are not required to file a tax return which often leads to a misunderstanding of how tax is calculated. It is employers that are required to file a tax return for their employees. Self-employed workers are required to file a tax return by themselves. This means that employees often do not even know how to file a tax return and know little about their tax status.
Whether they need to file taxes themselves or not, workers are expected to pay taxes on any earned income above £12,570 a year. As earned income increases so do tax charges. Income falls into separate brackets or codes determining how much you pay. The lowest being 20% (19% in Scotland) and the highest being 45% (46% in Scotland).
However, earned income is irrelevant in certain cases. The super-rich and those in the know often take advantage of tax loopholes in their tax returns to avoid paying tax. Oft times millionaires pay less tax than those on a minimum wage. In all cases this is unethical and in some it is illegal. £31 billion in potential earned income is lost each year by tax avoidance.
Taxes are used to fund public services in the UK which in theory uphold the health, safety, maintenance, and education of the nation. As employees do not file taxes for themselves they often overpay taxes if they are placed on the wrong tax code. This is especially prevalent when employees start a new or first job. They are often placed on emergency tax, meaning they pay the tax straight away on their earned income. Even if they have no previous earned income or if their previous earned income is less than the threshold. However, this lost income from tax can be claimed back.
A number of different circumstances can give an alternative minimum tax threshold. Married filing is a way to reduce taxes. When married filing jointly a person can in some cases apply a discount of £1,260 when filing jointly.
Blind people can also benefit from an increase in the income threshold for tax. This income threshold is raised by a further £2,520. Those that used a second self-employed 'side hustle' do not need to file taxes unless the second job earns more than £1000. Maintenance Payments Relief is also given to some with a divorced marital status if they meet certain criteria.
For relevant tax advice and advice on tax preparation such as how to file taxes, tax credits, and your filing status always refers directly to HMRC.