Higher rate tax trap snares 680,000 more people – are you being caught?

The number of higher-rate taxpayers has jumped significantly as more workers are dragged into paying more tax thanks to wage growth and frozen thresholds.

There was a marked increase in the number of taxpayers across the board between the 2021 to 2022 tax year and the 2022 to 2023 one, new HMRC statistics show.

The biggest jump came from the number of 40 per cent higher rate taxpayers, which ballooned by 15.3 per cent – or 680,000 more people – to 5.1 million.

Meanwhile, the number of 45 per cent additional rate taxpayers increased 9.5 per cent to 600,000.

There was a 2.9 per cent increase, or 790,000 more people, in the number of people paying the 20 per cent basic rate of income tax, as more on low incomes were pulled into the net.

This figures are a year behind, so it is likely there are by now hundreds of thousands more who have been dragged into higher bands. 

Fiscal drag: Pay rises are pushing more people into higher tax brackets 

The huge increase in higher-rate taxpayers shows the impact of fiscal drag, as inflationary pay rises paired with frozen income tax thresholds push more people into higher tax brackets.

As wages continue to rise, even more low earners will be caught in the tax net and the number of taxpayers in higher rate bands will increase.

In the Autumn Budget, the Chancellor announced the freeze on thresholds, which has been in place since 2021, will continue until the end of 2029.

A report by the Institute for Fiscal Studies estimates by 2027/28, 8.8million taxpayers will pay higher rate taxes.

There will also be an influx of additional-rate taxpayers when 2023/24 figures are finalised after the threshold was cut from £150,000 to £125,140 from April 2023.

Income tax is an important revenue raiser for the Government though, making up around a quarter of the total tax taken every year. 

The Office of Budget Responsibility forecast last year the freeze will raise £33.6 billion in the 2028/29 tax year.

HMRC also said that the higher tax liability for higher-rate taxpayers was partly due to frozen tax thresholds, but also due to the tapering of the Personal Allowance remaining unchanged at £100,000.

If it had risen with inflation, it would be £181,000.

Can you cut your tax liability?

The standard Personal Allowance is £12,570 but for every £2 you earn over £100,000, you lose £1 of your tax-free allowance, until it’s all gone at £125,140. 

It means that some taxpayers end up paying a 60 per cent tax rate, instead of 40 per cent.

Andy King, financial planning specialist at Evelyn Partners said: ‘Measures to mitigate higher income tax bills are thin on the ground, although it must be the case that many thousands of earners just below the £100,000 and £125,150 income levels are purposefully not trying to increase their earnings because they don’t think the extra work is worth the relatively meagre increase in post-tax income – especially for those who also lose tax-free child-care above £100,000. 

‘That can’t be good for economic growth or productivity in the UK.’

Some taxpayers opt to increase their pension contributions to get tax relief at their higher rate of tax using salary sacrifice pension schemes.

‘These issues are particularly salient as we draw to the end of the tax year,’ said King. 

‘There is still time for people to make one-off contributions to their pension, or possibly even to sacrifice a bonus into their pension if their payroll allows, to use up some of their annual allowance before it expires on 5 April.

‘While the pension annual allowance is not totally lost each year, as it can be possible to carry forward previous years’ allowances, that is a complication many people would rather avoid, and so using this year’s allowance rather than pushing the can down the road can make sense.

‘Unfortunately the complex and restrictive tapered annual allowance means these steps are severely limited for the highest earners. 

‘Those with a threshold income over £200,000 and adjusted income of £260,000 need to take special care to calculate their allowance and should seek professional advice before making a large contribution.’

SAVE MONEY, MAKE MONEY

Isa cashback

Isa cashback

Up to £3,000 on new accounts and transfers

Fix energy bills

Fix energy bills

Check price cap beating deals with uSwitch

Fee-free Isa investing

Fee-free Isa investing

Free share and ETF dealing, no account fee

4.85% cash Isa

4.85% cash Isa

Flexible cash Isa with unlimited withdrawals

Sipp cashback

Sipp cashback

Up to £3,000 when you open a Sipp by 5 April

Affiliate links: If you take out a product This is Money may earn a commission. These deals are chosen by our editorial team, as we think they are worth highlighting. This does not affect our editorial independence. Terms and conditions apply on all offers.