Tax band turnaround - How will the changes affect you?

Back in May, Alistair Darling raised the personal income tax allowance to compensate those who lost out as a result of the withdrawal of the 10% tax band.  This change takes affect this autumn, so what does it really mean for you?

The basic rate ‘tax cut’
The personal allowance for the current tax year (6 April 2008 to 5 April 2009) is now £6,035.  This is £600 higher than the allowance announced in March 2008, and amounts to a £120 ‘tax cut’ for basic rate taxpayers.  When the new allowance is included in pay packets there should be a tax repayment of around £60 for basic rate taxpayers and a £10 reduction in tax for each of the months between October and March.  However, self employed individuals will not benefit from the revised allowance until 31 January and 31 July 2009, when tax payments due for this tax year begin.

If you take a salary that just covers your personal allowance, you should be aware of moving your pay up to the new threshold of £6,035 (£503 per month), as the national insurance (NI) threshold has not changed.  This remains at £453 per month, so any pay above that level will attract employees’ class 1 NIC at 11%, (or a reduced rate if you are contracted out), and employers’ NIC at 12.8%.  This effectively leaves lower paid workers who earn between £5,435 and £6,035 per year in a ‘NIC trap,’ as they will pay NICs in 2008/09 but no tax.

Higher rate tax payers
Higher rate taxpayers are helping to pay for the increased allowance as the level at which they start to pay 40% tax is reduced from £36,000 to £34,800.  This reduced threshold, coupled with the increased personal allowance, brings £600 of dividend income into the higher tax band to be taxed at 32.5% rather than 10%.

If your strategy is to keep your total income just below the higher rate tax threshold you should consider:

paying £480 (net) of pension contributions, to increase the basic rate band by £600 (gross); or
reducing the dividends you take from your company in 2008/09 so your total taxable income after the deduction of allowances does not exceed £34,800.

If your income is quite modest and largely comprises interest or dividends, you may now qualify to receive all of your interest without a tax deduction.  We can help you calculate this - please contact us for more information.

Meanwhile, the higher personal allowances for those aged over 65 have not changed.  However, if your age allowances were reduced due to the total level of your income, the minimum allowance you will receive for 2008/09 is now £6,035.

If you would like to know more about how the new rates could affect you, please contact us.