Tax Calculation - Earned/Unearned Income

NordicNoir

Linton wrote: »

Have I misunderstoood something?

Let's see what happens if Mrs White has £50K of earned income only and pays £5K gross into her pension.

Tax=£11K x 0 + £32K x 20% + £2K x 40% = £7200 tax

She increases her income by £1K of rent. HMRC raise the basic rate band to £37K

Tax=£11K x 0 + £37K x 20% + £3K x 40%=£8600 tax

So her tax has gone up by more than her increased income!

The first example should also have had the basic band increased by the pension contribution. The difference between the two scenarios should be 40% of £1k.

Edit: Also, total income in the first is shown as £45k and it should be the £50k.

Linton

MichelleUK wrote: »

The first example should also have had the basic band increased by the pension contribution. The difference between the two scenarios should be 40% of £1k.

Edit: Also, total income in the first is shown as £45k and it should be the £50k.

Are you sure> If you earn £50K and £5K goes into a pension that is treated exactly the same as if you earned £45K with no pension.

NordicNoir

Linton wrote: »

Are you sure> If you earn £50K and £5K goes into a pension that is treated exactly the same as if you earned £45K with no pension.

Remember that in the examples here we are talking about pension contributions where the basic rate tax is recovered by the pension provider directly. To get the remaining 20% tax relief, for a 40% tax payer, the basic band is extended by the amount of the gross contribution.

So, as you said, there is no difference in tax paid by someone earning £45k and someone earning £50k making a £5k gross pension contribution.

Edit. So your first example would be:
Tax=£11K x 0 + £37K x 20% + £2K x 40% = £8200 tax

Judwin

Linton wrote: »

Have I misunderstoood something?

Let's see what happens if Mrs White has £50K of earned income only and pays £5K gross into her pension.

Tax=£11K x 0 + £32K x 20% + £2K x 40% = £7200 tax

She increases her income by £1K of rent. HMRC raise the basic rate band to £37K

Tax=£11K x 0 + £37K x 20% + £3K x 40%=£8600 tax

So her tax has gone up by more than her increased income!

The first scenario has a mistake I think; Shouldn't it be?

Tax=£11K x 0 + £37K x 20% + £2K x 40% = £8200 tax

So the £1K increase in income results in £400 extra tax - i.e. 40%.

You would also have to check if rent income counts as "net relevant earnings". If it doesn't, and Mrs White's income of £50K is solely from 'rent' then she wouldn't be allowed to pay £5K into a pension - her limit would be £3600 gross (£2880 net).

Linton

OK so you are always talking about net pension contributions and the net tax due. Then it all works out. I always think in terms of gross amounts.

Zebra

Judwin wrote: »

No links, but I do have my past 20 odd years Self Assessment Tax Calculation letters from HMRC to me.

Thanks Judwin. I'm sure it will be a relief to Dr Black to have his worries allayed. That's if he hasn't anything else on his mind at the moment, like 10 lbs of lead piping.

MichelleUK wrote: »

Have a read of this

Thanks Michelle. That's a good read.
All I'd managed to find online including HMRC's advice was so simplistic as to be almost useless, even their 'detailed' calculation tool was lacking in all but the most basic components.