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UK Personal Tax Allowances that let you make money tax-free
The UK has a marginal tax system and numerous tax allowances that allow individuals to earn certain types of income tax-free. In this article, we cover some of the main tax allowances available to UK individuals, together with details of the three income tax bands and rates. Below are some of the UK personal tax-free allowances that let you make money tax-free.
| Allowance | Tax-free amount |
|---|---|
| Personal allowance | £12,570 |
| Dividend allowance | £500 |
| Capital gains allowance | £3,000 |
| Personal savings allowance – basic rate taxpayers | £1,000 |
| Personal savings allowance – higher rate taxpayers | £500 |
| Trading allowance | £1,000 |
Personal allowance
The main tax-free allowance individuals in the UK benefit from is the annual personal allowance of £12,570, which lets individuals earn income up to this amount before paying any tax or PAYE.
Reducing personal allowance
The personal allowance reduces once taxable income exceeds £100,000. The allowance is reduced by £1 for every £2 earned over £100,000. You lose the personal allowance once your annual income exceeds £125,140.
Tax bands and rates
England, Wales, and Northern Ireland have three tax band thresholds and income tax rates. The first £12,570 of income is tax-free. Income between £12,570 and £50,270, or the next £37,700, falls in the basic rate tax band and is taxed at 20%. The higher rate tax band of 40% tax, applies to income over £50,270 and up to £125,140. And finally, the additional rate tax band of 45% applies to income over £125,140. Note that Scotland has different tax bands and rates than the rest of the UK.
| Tax band | Taxable income | Tax rate |
|---|---|---|
| Personal allowance | Up to £12,570 | 0% |
| Basic rate | £12,571 to £50,270 | 20% |
| Higher rate | £50,271 to £125,140 | 40% |
| Additional rate | Over £125,140 | 45% |
Reduced or enhanced personal allowance
If you have underpaid or overpaid tax during a tax year, HMRC may amend your tax code. This means you will have a different personal tax-free allowance to the standard £12,570 and different tax band thresholds. If you have underpaid tax you will have a reduced personal allowance. For example, if you have a tax code of 950L, you have a reduced tax-free allowance of £9,500 which means:
- The first £9,500 of income is tax-free
- You pay tax of 20% on the next £37,700 of income.
- You pay 40% tax on income above £47,200 (£9,500 + £37,700) and up to £125,140.
If you’ve overpaid tax during a previous tax year, HMRC may reimburse this by increasing the amount of your personal allowance or tax code. For example, if your tax code is 1300L, you will have an enhanced personal allowance of £13,000 and your tax band thresholds will be:
- The first £13,000 of income is tax-free.
- You pay tax of 20% on the next £37,700 of income.
- You pay tax of 40% on income above £50,700 (13,000 + 37,700) and up to £125,140.
Marginal tax
In a marginal tax system, higher tax rates only apply to that portion of income falling within the next tax band. For example, someone making £53,000 a year pays 20% tax on their earnings between £12,570 and £50,270. They pay 40% tax on their remaining pay of £2,730 (£53,000 less £50,270) which falls in the higher rate band.
Personal savings allowance
Basic rate taxpayers benefit from the full £1,000 annual personal savings allowance, letting them earn up to £1,000 of interest from savings tax-free. Higher-rate taxpayers have a reduced allowance of £500, while additional-rate taxpayers have a nil allowance.
Capital gains allowance
The current UK annual capital gains allowance is £3,000.
When you sell certain assets, profits up to £3,000 per annum are tax-free. Basic rate taxpayers pay 18% tax on any profits from the sale of assets over £3,000, while higher and additional rate taxpayers pay 24%.
Dividend allowance
The current dividend allowance is £500 per year, meaning you can earn up to £500 of dividend income tax-free annually from shareholdings.
Dividends falling within the basic tax rate band are taxed at 8.75%, whilst those falling within the higher rate band are taxed at 33.75%. Dividends falling in the additional tax rate band are taxed at 39.35%.
You can avoid dividend and capital gains tax on share income and disposals by investing in the stock market using tax-free stocks and shares ISAs.
Trading allowance
Individuals in the UK receive an annual tax-free trading allowance of £1,000. The allowance lets you earn up to £1,000 in trading income each tax year without having to report the income to HMRC or pay tax on the earnings. If your gross trading income exceeds £1,000, you must register for self assessment and submit an annual tax return. You can either deduct the £1,000 allowance from your income or deduct the allowable business expenses, whichever is more tax efficient, but you cannot deduct both.
Structure your income and allowances
Having an understanding of personal tax-free allowances can help you structure your income and allowances in a more tax-efficient way, potentially reducing your tax. Below are some examples of how tax strategies can save you money:
- Only withdraw capital gains from stocks and shares investments up to the annual capital gains allowance of £3,000 spreading withdrawals over several years.
- Invest in the stock market using a tax-free ISA.
- If you save money in a regular savings account make sure the savings allowance covers the annual interest and save any extra money in a tax-free ISA savings account.
HMRC’s website provides information about other allowances, such as the property allowance and marriage allowance:
Income Tax rates and Personal Allowances : Current rates and allowances – GOV.UK
