The new Chancellor, Kwasi Kwarteng, has today announced that the basic income tax rate will be reduced by 1 per cent while the additional 45 per cent rate of income tax will no longer apply.
The basic income tax rate will drop from 20 per cent to 19 per cent beginning in April 2023, one year sooner than anticipated.
Additionally, the highest rate of income tax—45 per cent on earnings over £150,000—would be scrapped from April 6, 2023.
Kwarteng added that there are no longer any intentions to raise the corporation tax rate next year.
Canada Life technical director Andrew Tully says: “Reducing the basic rate of income tax will cost the Treasury around £5bn a year while scrapping the additional rate of tax will cost about £2bn so these are both hugely significant tax cuts. There is a pension planning opportunity for those who can afford to make pension contributions in the current tax year. Additional rate taxpayers will get 45 per cent relief, whereas next year contributions will only receive 40 per cent relief. Similarly, basic rate taxpayers can obtain 20 per cent relief on contributions this year, which will fall to 19 per cent next year.”
Aegon pensions director Steven Cameron says: “The government’s decision to cut the basic rate of income tax from 20 per cent to 19 per cent from April 2023, a year earlier than planned, will mean millions can keep more of what they earn. However, income tax thresholds are currently frozen until 2026 and over time, wage increases mean people are paying tax on more of their income, and in some cases are being dragged into paying higher rate tax. This is a particular issue in the current climate as soaring inflation has accelerated wage increases.
“While this is a welcome boost to take-home pay, for many it will fail to compensate for frozen income tax thresholds. Unfreezing these would be a much more powerful lever to support lower and modest-earning households.
“For anyone earning under £37,670, increasing the basic rate threshold by 10 per cent, around the current rate of inflation, would offer a greater income tax saving than cutting the rate of income tax from 20 per cent to 19 per cent.
“Aegon analysis shows that a 10 per cent increase in the current threshold for paying basic rate income tax would save people earning above £13,827 around £250 over a year in income tax. This is based on the basic rate of income tax of 20 per cent in England.
“Different income tax rates apply in Scotland, so individuals will have to wait to see if the Scottish Government makes equivalent changes.”
“The abolition of the additional rate of income tax will be very welcomed news for those earning above £150,000, but it does come with a sting in the tail when it comes to personal contributions to pensions. These benefit from a ‘tax relief’ top-up at the individual’s highest marginal rate of income tax which means currently, high additional rate taxpayers can receive 45 per cent tax relief. Put another way, a contribution of £550 out of take-home pay becomes £1000 when invested in a pension.
“In future, the highest marginal rate will be 40 per cent so the same £1000 in a pension will cost £600 from take-home pay. Those in a position to do so may want to make additional pension contributions before April 2023 to make sure they benefit from the maximum tax relief. We recommend seeking professional financial advice.”
AJ Bell head of retirement policy Tom Selby says: “Chancellor Kwasi Kwarteng’s decision to lower the income tax rates paid by basic and additional-rate taxpayers is clearly intended first-and-foremost to allow people to keep more of their pay and help spur the economy into life. However, both will also have a knock-on impact on retirement saving incentives when people pay into a pension.
“Because pension tax relief is paid at your marginal rate of income tax, lowering the tax people pay also reduces the amount of tax relief they are entitled to.
“For basic-rate taxpayers, lowering income tax from 20 per cent to 19 per cent will cut the effective pension saving ‘bonus’ provided by tax relief from 25 per cent to around 23 per cent. For additional-rate taxpayers, reducing the income tax rate from 45 per cent to 40 per cent will see their savings bonus drop from around 82 per cent to 66 per cent.
“Pensions of course remain extremely tax-efficient long-term savings products for people of all income levels. For basic-rate taxpayers saving outside of automatic enrolment, the reduction in tax relief to 19% will however mean that Lifetime ISAs, which continue to offer a savings bonus equivalent to 20 per cent tax relief, will become comparatively more attractive.
“One other important thing to note is the transitional period afforded certain types of pension scheme. For basic-rate taxpayers saving in ‘relief at source’ schemes – where basic-rate tax relief tax relief is added automatically – there will be an extra year during which they can continue to receive tax relief at 20 per cent. Those in ‘net pay’ schemes, meanwhile – where contributions come straight from pre-tax pay – will presumably receive 19 per cent tax relief from April 2023 onwards.”