Income Tax Computations

Question 1

Income Tax

Answer 1

Levied on individuals by reference to their taxable income for a tax year.

Question 2

Taxable Income

Answer 2

Individual’s total income liable to income tax less certain deductible amounts.

Question 3

Exempt Income

Answer 3

Income from letting a room in the taxpayer’s own home up to a certain level

Certain investment incomes

Certain employment incomes and benefits

Interest on tax repayments made to individuals

Betting and gaming winnings (including the National Lottery and Premium Bonds).

Question 4

Personal Allowance

Answer 4

Amount which a taxpayer does not pay tax on. The standard personal allowance for the tax year 2023-24 is £12,570.

Question 5

Adjusted Net Income (Reduction of personal allowance)

Answer 5

Net income less gross pension contributions less gross gift aid donations.

If the taxpayer’s adjusted net income exceeds £100,000, the personal allowance is reduced to nil at the rate of £1 for every £2 that net income exceeds £100,000.

Taxpayers with net income in excess of £125,140 will have no personal allowance

Question 6

Tax Rates

Answer 6

Basic rate £1–37,700
Non-savings Income - 20%
Savings Income - 20%
Dividend Income - 8.75%

Higher rate £37,701–125,140 Non-savings Income - 40%
Savings Income - 40%
Dividend Income - 33.75%

Additional rate £125,141 or more
Non-savings Income - 45%
Savings Income - 45%
Dividend Income - 39.35%

Question 7

Savings Income - Nil Rate Band

Answer 7

The extent of the savings income nil rate band depends upon which top rate of tax applies to the taxpayer. This can be established by looking at the individual’s total taxable income to see whether it exceeds the basic rate or higher rate limit.

For the tax year 2023-24 the savings allowance is £1,000 for a basic rate taxpayer.

Only £500 for a higher rate taxpayer.

For additional rate taxpayers no savings nil rate band is available.

Question 8

Special Case

Answer 8

Where non-savings income does not exceed £5,000 for the tax year 2023-24, savings income is taxed at the “starting rate” of 0% until total taxable income reaches £5,000.

This starting rate is available in addition to the savings income nil rate band, so if an individual’s total income does not exceed £18,570 they will not pay any tax on their savings income (as covered by £12,570 personal allowance, £5,000 starting rate, £1,000 savings income nil rate band).

Thereafter, savings income is taxed at 20%, 40% and 45% in accordance with the table of rates given previously.

Question 9

Taxation of Dividend Income

Answer 9

Dividend income is received gross.

Taxpayers benefit from a dividend allowance of £1000 - operates as Nil rate band.

This is available to all taxpayers, irrespective of their income level. Anything over £1000 is taxable at rates of 8.75%, 33.75% and 39.35%.

Question 10

Qualifying loan interest

Answer 10

Interest on a fixed loan (not a bank overdraft) taken out for a qualifying purpose.

Qualifying purpose includes:
- The purchase of an interest in a partnership by a full equity partner.
- Purchase of plant and machinery by a partner on behalf of their firm, or shareholder on behalf of their company, or by an employee for use in their employment. Interest relief is only available for the first four tax years.
- The purchase of shares in an employee-owned company.

Question 11

Donations Under Gift Aid Scheme

Answer 11

Basic rate taxpayers – 20% relief is given at source when the payment is made (i.e. taxpayer only pays the net amount (80%) to the charity and the payment is ignored in the income tax computation as complete relief has been given at source).

Higher and additional rate taxpayers – 20% relief given at source, but higher and additional rate relief is given in the income tax computation by “extension” of the higher and additional rate bands

Charities, as non-taxpayers, are entitled to the gross amount of the donations. They reclaim direct from HMRC the basic rate tax relief given at source to the donors. So if a taxpayer wanted to gift £100 to charity, the individual would pay £80 to the charity, and the charity would claim £20 from HMRC.

Question 12

Extended Basic and Higher Rate Relief

Answer 12

Extension of the basic and higher rate bands is applied by adding the gross amount of the gift aid payment (the actual amount paid × 100⁄80) to £37,700 and £125,140, thereby raising the starting point for higher and additional rate tax. Thus, higher rate relief for the payment is given by taxing an equivalent amount of income at 20% instead of 40%, and additional rate relief is given by taxing an equivalent amount of income at 40% instead of 45%.

If the raised thresholds affect dividend income (as opposed to savings or non-savings income), the adjusted rates will be 8.75% instead of 33.75%, or 33.75% instead of 39.35%.

Question 13

State Pension

Answer 13

A person’s state pension is funded from national insurance contributions payable by employees, their employers and the self-employed.

Question 14

Private Pension

Answer 14

Occupational pension is a pension scheme run for the employer’s own staff and partly or wholly funded by the employer.

Personal pension is a pension scheme funded by an individual for their own benefit.

Question 15

Relief for Contributions Paid Into Occupational Pension Schemes

Answer 15

An employee who is a member of their employer’s occupational pension scheme (OPS) can claim income tax relief on the same basis as an individual claiming relief for personal pension contributions (i.e. relief given for contributions up to 100% of relevant earnings for the particular tax year).

Question 16

Relief for Contributions Paid Into Personal Pension Schemes

Answer 16

An individual policyholder can claim income tax relief for the contributions they make into a personal pension scheme (PPS) up to 100% of the amount of their relevant earnings for the tax year in which the contributions are paid.

Relevant earnings of the tax year are those liable to UK tax and include:
- employment incomes – pay and benefits;
- trading profit arising from a self-employment
- property income from the letting of furnished holiday accommodation.

Contributions are paid net of 20% tax relief at source, even if the policyholder is a non-taxpayer.

Question 17

Annual Allowance

Answer 17

The annual allowance for the tax year 2023-24 is £40,000 plus any unused annual allowance brought forward for the three previous tax years (2020-21, 2021-22 and 2022-23). The limit in these years was also £40,000.

Unused allowances can only be carried forward for any tax year if the taxpayer is a member of a registered pension scheme. If, for any year, a taxpayer is not a member of a pension scheme, the annual allowance for that year is lost.

If the annual allowance includes unused allowance from earlier tax years, pension contributions must be matched with the current year’s allowance and then with the unused amounts on a first in first out (FIFO) basis.

Question 18

Tapered Annual Allowance

Answer 18

The annual allowance is reduced by £1 for every £2 of income above £240,000, but will only reduce to a minimum of £4,000. Thus a taxpayer with adjusted income of £270,000 would have an annual allowance of £25,000 (i.e. 40,000 − ½ (270,000 − 240,000)), and taxpayers with income of £312,000 or more would have an allowance of £4,000.

Any unused annual allowances from earlier periods can be carried forward and utilised if pension payments in the current period exceed the tapered allowance. Similarly, if pension payments do not reach the tapered allowance, it is only the excess of the tapered allowance which may be carried forward.

Question 19

Annual Allowance Charge

Answer 19

If the total pension input in a tax year exceeds the annual allowance (including any unused amounts) available for that tax year, the excess does not attract tax relief. This excess pension input problem is addressed by:

• initially giving relief for all contributions paid by the individual and their employer; and
• treating the excess as additional taxable income chargeable to income tax at the taxpayer’s marginal rate of tax (i.e. 20%, 40% or 45%).

Question 20

Lifetime Allowance Charge

Answer 20

When a person retires and withdraws their pension benefits, and the value of those benefits exceeds the lifetime allowance (£1,073,100 for the tax year 2023-24), any value in excess of this allowance limit will be additionally taxed as follows:
- If individual takes excess as a lump sum – excess at 55%
- If individual leaves excess in the fund to take as a taxed annual pension – excess at 25%.

Question 21

Transferable Amount of Personal Allowance

Answer 21

The transfer of allowance is for the entire fixed amount available, £1,260 for the tax year 2023-24. Partial transfers are not allowed, even if this creates a tax liability for the transferor.

The benefit to the transferee is a deduction in income tax liability of £252 (£1,260 at 20%). However, this may be restricted, as necessary, if it would otherwise create a “negative liability”, as the recipient’s tax liability cannot be reduced below zero.

Question 22

Tax Free Investments

Answer 22

• ISA
• the maximum affordable contributions into a registered personal or occupational pension scheme
• making any charitable donations by payroll or gift aid