Tax rates, allowances and amounts How much tax you pay
Different incomes are subject to different taxes
Not all income is subject to the same taxes. How it is treated depends on its source.
Income from employment, pensions and property
This is classed as non-savings income (from employment, self-employment, pensions and rental income).
Non-savings income is currently taxed at two alternative rates depending on how much taxable income you have. Taxable income is calculated by deducting your personal allowance (and any deductible reliefs you are entitled to) from your total earnings.
2010-11 and 2011-12 rates
For 2010-11 people with taxable income up to £37,400 are basic-rate taxpayers and pay tax at 20%. People with taxable income over this amount are higher-rate taxpayers and pay tax at 40% on amounts over £37,400. Taxable income over £150,000 is taxed at an additional rate of 50%. For 2011-12, the limit for basic rate tax falls to £35,000. Those with taxable income over this pay tax at 40% on amounts over £35,000. Taxable income over £150,000 is still taxed at 50%.
Starting rate abolished
Until April 2008 there was an additional starting rate tax band, and income falling into this band was taxed at only 10%. However, this band was abolished for non-savings income from April 2008.
Savings income
Savings income (such as interest from bank or building society accounts) is still taxed at three rates.
Depending on what tax band it falls into when added to your non-savings income, it is taxed at 10%, 20% 40% or 50%.
However, you would have to have non-savings income of less than your personal allowance plus £2,440 (£2,560 in 2011-12) for any of your savings income to qualify for a tax rate of 10%. For most people aged under 65 this gives a total of £8,915 (2010-11) or £10,035 (2011-12), for those aged 65-74 it is £11,930 (2010-11) or £12,500 (2011-12) , and for those aged 75 and over it’s £12,080 (2010-11) or £12,650 (2011-12).
Here are two examples of how it might work:
Example 1
George (aged 66) has a pension of £15,000 and interest from his savings accounts of £1,000 a year.
For the tax year 2010-11 his tax is worked out like this: £15,000 less £9,490 (personal allowance for 65 year old in 2010-11) = £5,510 taxable income from pension.
£5,510 is above the starting rate tax band limit of £2,440, so none of George's savings income is taxed at 10%.
Example 2
Mildred (aged 60) has a pension of £7,000 a year and interest from savings accounts of £2,000 a year: £7,000 less £6,475 (personal allowance for 60 year old in 2010-11) = £525 taxable pension income.
Mildred's pension income is less than the full starting rate tax band of £2,440 which means there is £1,915 of the band left to apply against her savings income.
So, £1,915 of her savings income is taxed at 10% and the remaining £85 is taxed at 20%. The full taxable amount of her pension income (£525) is taxed at 20%.
Dividend income
Dividend income (from shares) is treated differently. Basic-rate taxpayers pay 10% tax, higher-rate taxpayers pay 32.5% and additional rate taxpayers pay 42.5%. UK dividends carry a 10% tax credit, so, effectively, basic-rate taxpayers pay no further tax, higher-rate taxpayers pay further tax at 25% and additional rate taxpayers pay further tax at just over 36%.
Non-savings income is normally allocated against your tax bands before savings, dividends and capital gains, so to find out at what rate interest on your savings is taxed, you must add this to your other taxable income.
Capital gains tax
In 2010-2011 you can make capital gains of £10,100 before paying capital gains tax (CGT). For 2011-12 the limit rises to £10,600.
In the past, capital gains tax was complicated to work out, with an indexation allowance for increases due to inflation, taper relief according to how long you owned an asset, and different tax rates depending on the total of your income and gains for the year.
However, for sales and gifts made from April 2008 onwards, capital gains tax has been simplified. Indexation allowance and taper relief have been abolished and CGT is charged at 18% if you are a basic rate taxpayer and 28% if you are a higher rate taxpayer.
Selling a business
If you sell off part or all of a business, Entrepreneurs' relief may reduce the rate that CGT is charged at to an effective rate of 10% on the first £2 million of gains you make over your lifetime. For 2011-12 this limit will be increased to £10m.
Entrepreneurs’ relief applies if you run a trading business or furnished holiday letting.
Inheritance tax
In 2010-11, inheritance tax applies to estates in excess of £325,000. Tax is payable on anything above this threshold (apart from where there are tax exemptions, such as transfers to your spouse or registered civil partner). The nil-rate band remains unchanged for 2011-12.
If tax becomes payable on gifts during your lifetime (usually to trusts) the tax rate paid is half the rate charged on death, so it is currently 20%.
For more details, see Inheritance tax explained.
For no-nonsense advice on how to manage your taxes and reduce your tax bill, read the Tax Handbook 2011/12. For more information if you're self-employed, see our book Working for Yourself.