Transcription
Hi guys, Ed from Medics Money here. If you've ever wondered, at a simple level, how income tax is calculated, why the tax year end in the UK is the 5th of April, and what sources of income are tax-free, then stick around. And don't forget to hit those like and subscribe buttons.
So, let's start with some essential tax knowledge regarding income tax. The important stuff you need to know to be able to follow the rest of what we talk about, both today and for future videos. So, firstly, the tax year in the UK runs from the 6th of April each year until the 5th of April the following year. So, the current time I'm recording this, we are in the tax year that runs from the 5th of April 2023 until the 6th of April 2024, or the 2023 to 2024 tax year. And the government will set tax rates and thresholds for each tax year in their budget, which is usually in the spring, and also their Autumn statement, which this year was in November, just recently. If they decide to increase or decrease a tax, such as income tax, then usually the change will take effect from the start of the next tax year, that is the 6th of April.
So, why do we have such a strange tax year end? Why isn't it the 31st of December, as it is in many countries around the world? Well, it's because originally the British used what was known as the Julian calendar, rather than the Gregorian calendar, which many European countries had already moved to. So, the Julian calendar resolved around important religious days, but the most important being on the 25th of the of certain months. Usually, every quarter, there'd be a very important holy day. So, Christmas Day, being the 25th of December, that is the the classic one, of course. March, in the Julian calendar, was always the first month of the year, and New Year's Day was actually the 25th of of March. By the time we we switched over to the Gregorian calendar, and a long time ago now, in 1752, we were actually 11 days out from the rest of Europe, which meant that the British, when we changed to the Gregorian calendar, we basically went from September the 2nd, one day, to September the 14th, the next. Now, the Treasury, they weren't too happy about losing 11 days' worth of revenue. So, to still make sure that they got one whole year's worth of revenue, the tax year was extended to the 4th of April, and then later on by one more day to account for leap years, which took us to the 5th of April as our tax year end, and it's been the same ever since, basically.
Okay, so a bit of history there for you guys. Hope you found that interesting. But back to the more useful stuff. Back to what is income tax and how is it applied? So, firstly, most people in the UK will get a tax-free personal allowance of £12,570. So, the first £12,570 of income should be tax-free. Now, the personal allowance begins to be taken away if your adjusted net income exceeds £100,000. So, we're not going to discuss that further here, but make a mental note of this number because this will be important when we discuss tax codes in a separate video, and also when we discuss a key concept called marginal rates, when the tax rate on one pound of income that you get, or one extra pound of income you get, is different to the actual legal tax rate. Once your personal allowance has been taken off to get your taxable income, you then start applying the tax rates to the tax thresholds. Now, looking at non-savings income only, which includes most the most important sources of income, so that includes salaries, the taxable profits of self-employed people, partnership income, and rental income. You can see the tax thresholds and tax rates on the right here for England, Wales, and Northern Ireland. And don't worry, we'll come to Scotland separately. Once you've deducted the personal allowance of £12,570, the next £37,700 is taxed at 20%. And then the next £87,440 of income is taxed at 40%. Income above £125,140 is taxed at the additional higher rate of 45%. As I say, these are the the rates for non-savings income, so we're not considering, for example, dividend income, which is taxed slightly differently, and we're only looking here at income tax, of course. There are other taxes out there: corporation tax, VAT, capital gains tax, and so on. But just looking at income tax and non-savings income.
Okay, HM Revenue & Customs, I'm sure you've all heard of HMRC. They are responsible for collecting taxation throughout the UK. So, what about Scotland? So, all the rates that you see here on the right, these apply to England, Wales, and Northern Ireland. So, what about Scotland? Well, for Scotland, the non-savings rates are different. So, in Scotland, you have five rates: you have 19%, 20%, 21%, 42%, and 47% currently. And I'm not going to read them all out for you, but you can see on the right how the thresholds apply to Scotland. So, slightly more, well, there are more thresholds, there are more rates, slightly slightly more detailed calculations when you want to calculate your income tax. But it applies the same principle, which we're going to come on to towards the end. Note that the personal allowance of £12,570, that is the same as the rest of the rest of the UK in Scotland, because that is set by the UK government. So, everyone in the UK, no matter where you are, as long as you're eligible for it, will get a personal allowance tax-free amount of £12,570.
We mentioned that there are some things that are exempt from income tax. There isn't, it's not the biggest list in the world, funnily enough. HMRC do want to get their hands on what they can. But there are some key things that are exempted. Now, the first thing, probably the most important one, is that any income generated in an Individual Savings Account, or ISA, that is tax-free. So, if you're earning bank interest in a cash ISA, or bank interest in a lifetime ISA, or even dividend income, as well, by the way, for ISAs. I know we haven't talked about dividend tax rates, but any income, bank interest, or dividends that you receive in an ISA, that is exempt from income tax. If you buy Premium Bonds and you make some, and you win some money from that, those winnings are also tax-free. And you can buy up to £50,000 of Premium Bonds. They're quite handy because you can cash them in at any time and get your money back. And as I say, if you win the Premium Bonds, it's basically a form of savings account, but with a lottery rather than an actual fixed interest. If you win, that income is tax-free. If you win any income from betting, gaming, or lotteries, such as a National Lottery, for example, if you win money there, there is no income tax payable. Certain social security benefits are also exempted from income tax. They would include Universal Credit, housing benefit, and child benefit. But you have to be aware, or be a bit careful, of child benefit because there is something called the High Income Child Benefit Charge. If your income goes above £50,000, or if the income of your partner goes above £50,000, the government will start to claw that money back or make you repay it. And by the time you reach an income of over £60,000 for you or your partner, you have to pay the whole amount. The next couple may not be that important for doctors, but scholarship awards are exempt from income tax. Dividends paid on the first £200,000 of Venture Capital Trust, or VCT, shares are exempt. Well, I'll be very impressed if anyone out there has enough Venture Capital Trust shares that they receive near, you know, £200,000 of dividends, but hey, I'm sure there are some people out there that do. And if you do, if you're lucky enough, that's exempt from income tax. Termination payments, there are various rules around that, but if you are made redundant, and the rules, you know, you meet the rules that apply for that, you can get up to £30,000 of tax-free income. Again, may not be that applicable for healthcare professionals because we are less likely to be made redundant, given how desperate the NHS is for staff. But it might apply to your loved ones. This is a little bit more interesting for doctors, given how often we are relocated to different trusts or different parts of the country. You can claim up to £8,000 of relocation expenses and get that income tax-free. I think many NHS trusts will actually pay up to £10,000, and as I say, £8,000 of that should be exempt from income tax. So, you can see there aren't a vast number of sources of income that are exempt. And don't forget that the first £12,570 is tax-free for most individuals. Something I should also mention here is that the first £1,000 of trading income and the first £1,000 of rental income, they are also not so much exempt, but there is a £1,000 allowance, kind of like an additional personal allowance, which takes the first £1,000 out of tax. So, if you, you know, if let's say you're constantly trading on eBay and you're actually making a decent profit on that, up to £1,000, then that is exempt from income tax, or rather, it's covered by this £1,000 trading allowance. That can be really important for doctors because if you're getting any income from completing cremation, creation form, income is classified as miscellaneous income, and miscellaneous income also randomly qualifies for this £1,000 trading allowance. So, if you receive checks from various funeral directors for filling in cremation forms, and you get, I don't know, £300, whatever it is, as long as it's below £1,000, then you don't have to pay tax, and you don't have to even tell HMRC or put it on your tax return or do a tax return, sorry. So, pretty handy.
Okay, calculating income tax. Now, this is something that I think a lot of people are going to assume is incredibly difficult. Now, it's not actually too difficult to work out your income tax. The main difficulty is working out, you know, making sure you get the right amounts that are taxed. Okay? But the key thing to say is that it's not that difficult. I'm going to show you a very simple example. Okay? Right, now we're just going to imagine that someone gets paid a gross salary of £60,000, and that's it. We're not going to look at any deductions, we're not going to look at any other types of income, we're not going to look, this person doesn't have bank interest or dividend income or anything else going on. And we're just going to look at what the income tax liability is. Okay? Now, for the countries of the UK, apart from Scotland, what you do to work out your income tax liability is you take your gross salary of £60,000. You then deduct your personal allowance, assuming you're eligible for it, but in this case, this person is. So, you deduct £12,570, and that gives you a taxable income of £47,430. And then you apply the rates that we mentioned. So, we've already said the first £37,700 is taxed at 20%, so that is then a tax liability of £7,540. And then the excess, because we haven't gone above £124, £125,140, we're not at the 45% limit yet. So, the next chunk of income, the remainder of it, is taxed at 40%, giving a tax bill of £3,892 for that element, and a total tax liability of £11,432.
Scotland, it's exactly the same process. So, you've got your gross salary of £60,000. Again, in Scotland, the personal allowance is always the same, so £12,570 is deducted. You get exactly the same taxable income. And then we work through those those thresholds that we mentioned in the previous slides. So, the first chunk is taxed at 19%, the next at 20%, the next at 21%, and finally, the last chunk is taxed at 42%, yielding a tax liability in Scotland of £13,238 and 48 pence. Got to remember the pence. Now, I've just kept it really simple. Keeping it simple, you get your gross salary, deduct your personal allowance, and then start working through the bands and the tax rates. So, as I say, in most of the UK, it's 20%, and then 40%. In Scotland, or sorry, then 45%. In Scotland, you've got 19%, 20%, 21%, 42%, and 47%. So, you just work through it until you get your tax liability. And this works, this works monthly as well. You can just divide everything here by 12 to work out your monthly tax bill.
So, what about a few other bits and pieces? Now, I'm just going to look at the, how it works in England, Wales, and Northern Ireland here. It works exactly the same in Scotland, but it's just a little bit more work, a little bit messier. So, I've just kept it clean and just looked at the non-Scottish part of the UK. What, what do you do about your pension? And bear in mind, by the way, I'm just showing you how to do this. I'm not expecting you to do it, and your payroll department will work this out for you. But I'm just trying to let you know how it works. Interest on pension, whatever you want to call it. If you get your NHS pension, then that is there, that is tax-deductible. And it will automatically be worked out for you and automatically be tax-deducted, you know, made tax-deductible for you. Because what your payroll company will do is they will take your gross salary, let's say £60,000. They will get, they will deduct your pension contributions from from the get-go. That will get your taxable income, basically, the amount you'll be taxed on, less of course, your personal allowance as well. So, in this case, if I've got a 12.5% tier for the pension, I will then pay £7,500 into the pension, which is deducted from my gross salary, as well as my personal allowance. So, my taxable income is £39,093. So, it's much lower than it was previously. If I go back, our taxable income was £47,430. It's now £49,933.
£1,000. Again, you take your gross salary of £60,000. You take off your pension contributions, which at 12.5% will be £7,500. And you can claim that £1,000, £1,000 of allowable employment expenses as well. Take care of your personal allowance as well, £12,570, and you get your taxable income of £38,930. And then you can see we do exactly the same thing. You start off with the first £37,700, and you tax that at 20%. And of course, if your taxable income is lower than £37,700, you take that amount and multiply by 20% to get your tax liability. You won't have to work out your 40% liability. But in this case, our person has a taxable income which is slightly above £37,700. So, that remaining bit, £1,230, is taxed at 40%, and lo and behold, our tax liability comes down to £8,032. Whereas before, in the example of, in the previous example, when we didn't have any deductions, the tax liability was £11,432. It's now £8,032.
That's all I'm going to say for now, just a quick whistle-stop tour about income tax. Don't forget to claim your allowable employment expenses if you haven't done so already. They're really valuable. You can see, in this situation, £400 has been knocked off the tax liability because this person claimed £1,000 of employment expenses. And as healthcare professionals, we're constantly paying money to regulatory bodies for our indemnity insurance, Royal Colleges, the BMA, and so on. And these are all tax-deductible, as are any exams you incur under a training contract for one of the Royal Colleges. If you haven't claimed your allowable employment expenses and you want to know how and you want to do that, then we have a free guide at our on our website, medicsmoney.co.uk. I'll put the link there for you guys. It's completely free, step-by-step guides you through it, and you can make that claim to reduce your tax bill. Anyway, I hope that was helpful, guys. I appreciate it was quite brief, but stick around. At some point, we're going to upload videos on your tax code and also marginal tax rates as well. So, until then, take care.