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Are you paying more tax than a millionaire?

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Anomalies in the UK tax system leave around 775,000 people paying more tax on each extra pound that they earn than those who earn £1m+.

The UK’s progressive tax system sees those with incomes under £11,500 paying no tax, those up to £45,000 paying tax of 20p in the pound, and those up to £150,000 pay 40p in the pound. Those on the highest incomes pay 45p in the pound for each extra pound that they earn.

But analysis from Royal London shows that some people will pay anything from 60p to 70p in the pound because of a series of complications which have been introduced to the tax system over recent years.  Those affected are:

Parents where one partner earns between £50,000 and £60,000 per year

Since January 2013, this group loses 1% of their child benefit for each £100 per year that they earn above the £50,000 floor. A couple with two children on £50,000 per year would receive £1,789 per year in child benefit: if the higher earner earns £51,000 they lose 10% of their child benefit or £179 – so this extra £1,000 costs them £400 in income tax, £179 in child benefit, and £20 in National Insurance or £599 in total – equivalent to a tax rate of 59.9%. Royal London believes that 375,000 people are in this category.

People who earn between £100,000 and £123,000

Those earning under £100,000 per year benefit from a tax free personal allowance of £11,500 per year. After that, the tax free personal allowance is ‘tapered’ at a rate of 50p in the pound. Someone earning £101,000 has £1,000 above the threshold so loses £500 in personal allowance;  this is an extra £500 which is now taxed at 40%, increasing their tax bill by £200;  overall, the extra £1,000 costs them £400 in income tax, £200 in lost personal allowance and £20 in National Insurance or £620 in total – equivalent to a tax rate of 62%.

People with total taxable income (including employer pension contributions) between £150,000 and £210,000 per year

Those on lower incomes can contribute £40,000 per year into a pension and benefit from tax relief. Above the £150,000 threshold, this ‘annual allowance’ is reduced at a rate of 50p in the pound. Many people in this income band will be paying tax at 45%, so a reduction of 50p in the annual allowance will mean an additional 22.5% in tax including National Insurance Contributions – equivalent to a tax rate of 69.5%.  Royal London puts 150,000 in this category.

Steve Webb, director of policy at Royal London, said: “Most people would agree that as people earn more they should pay a higher rate of tax. But a series of complex changes which have been bolted on to the tax system over recent years mean this is no longer true. This analysis shows that there are hundreds of thousands of people who pay more tax on each extra pound that they earn than a millionaire – in some cases losing 60p or 70p in the pound. It is hard to believe that this is a sensible way to run a tax system. As part of his Budget, the Chancellor should be looking to rationalise the tax system so that is simpler, fairer and easier to understand”.

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