How much tax should I pay?
This is not an easy question to answer and there is, unfortunately, no standard answer. Tax rates vary greatly and depend primarily on two things: income and deductibles or tax credits. Because of this, it is important to fully comprehend what these two terms mean.
What counts as income?
Income, to some extent is clear, basically what you earn. The pay cheque or wages you receive from the job you do is income. However, there are also other types of income, which may not seem like income. Such as, income in the form of interest payments from a savings or building society account, dividends and interest payments from stocks or bonds. If you have a rental property, the rent paid to you is also considered income by the HM Revenue & Customs (HMRC). Another type of so-called income that most people miss are benefits. For example so-called non-cash benefits from your employer, such as a company car, housing allowance, education allowance, low-interest loans – these are all considered income and are thus taxable. Your annual income would be the sum of ‘income’ you receive, from all sources.
The UK has a so-called ‘Personal Allowance’, which refers to the tax-free amount you can earn each year. For example, for the tax year 2011-2012, the Personal Allowance amount is £7,475. What this means is that the first £7,475 you earn is tax free and you are only taxed on income above this amount. Broadly speaking, the UK has three tax brackets, 20% for income up to £35,000; 40% for income up to £150,000 and 50% for income over £150,000.
If you are employed and receive a pay cheque from your employer, then things are much simpler. Your employer will deduct your income tax and other payments, such as National Health, straight from your pay cheque, known as PAYE (Pay as You Earn). However, the picture is different for those that are self-employed. You will have to pay taxes under a system known as ‘Self Assessment’. This means that you have to calculate your own taxes and make payments to the HMRC. As this can get complicated and under-paying taxes can become expensive, self-employed people should hire a tax professional or accountant to help with their taxes.
Once you have calculated what your income is, it is important to look at deductibles or tax credits. Tax credits are basically expenses that you incurred, which the government allows you to deduct from your income, thereby reducing your taxes.
One standard tax credit is the Child Tax Credit. People who have a child can claim this tax credit, however, there are limits and it is important to see if you qualify. You can receive tax credits for things like childcare, living with someone with a disability or taking care of an elderly person, or if you are over 50 with no income. Go to www.hmrc.gov.uk to see if you qualify for any tax credits.
There are also other ways to reduce your income and here it is best to consult a professional, since many deductions or credits are dependent on how much you earn and what tax credits you are already receiving. For example, contributing to a pension scheme - it is possible to make tax-free contributions to a pension scheme, within annual limits. Also, charitable contributions are tax deductible, subject to limits. It is therefore important to understand what tax credits or deductibles you can utilise, to help reduce the total amount of your tax bill.
For professional advice on your all your tax issues please contact our tax team.