Once your income exceeds £100,000, the tax-free personal allowance is gradually reduced until it is eliminated in full. Continue reading to learn more about the Abatement of the Personal Allowance and how to preserve your entitlement to the allowance.
Abatement of the Personal Allowance explained
The Personal Allowance is the amount of income each individual is entitled to receive free of tax each year. The basic Personal Allowance for 2021/22 is £12,570. Depending on what income you receive, your Personal Allowance will be applied in different ways. If you’re self-employed and have no other income, you should deduct your Personal Allowance from your profit before calculating how much income tax is due. Alternatively, suppose you are a salaried employee such as an umbrella company employee. In that case, your umbrella company will apply your Personal Allowance to your wages, and they will get this information from your tax code.
However, not all taxpayers can benefit from the Personal Allowance. For individuals whose income is over £100,000, the Personal Allowance is reduced by £1 for every £2 that your adjusted net income is above the £100,000 threshold – until it is zero. An individual who earns over £125,140 will not receive any income tax-free as their Personal Allowance will have been reduced to £0.
Darren has a taxable income for 2021/22 of £120,000. He makes pension contributions paid gross of £5,000. Darren’s adjusted net income for 2021/22 is £115,000 (£120,000 – £5,000).
As Darren’s income is more than £100,000, his tax-free Personal Allowance is reduced by £1 for every £2 by which his income exceeds £100,000. Therefore, the reduction in his Personal Allowance is £7,500 (1/2(£115,000 – £100,000).
Therefore, Darren’s tax-free personal allowance for 2021/22 is £5,070 (£12,570 – £ 7,500).
Beware of umbrella illustrations that do not include the Abatement
All compliant umbrella companies will know about the Abatement and are legally required to include the Abatement when processing your tax deductions. However, not all umbrella companies will include the Abatement in your take home pay illustration.
Don’t be fooled by a higher take-home pay illustration – regardless of what you are quoted, the Abatement will be applied to your payment if you are above the threshold. Please be aware that registering with an umbrella company that hasn’t include the Abatement in their illustration will result in a lower take home pay than you were expecting.
If you’re on a higher rate and think the Abatement may apply to you, ask the umbrella company why it’s not been included in your illustration. When you request a take-home pay calculation from Umbrella Company UK, we will include the £100,000 Abatement in your illustration if applies to you. This will give you an accurate idea of what you could expect to take home each month and enable you to decide which provider to use.
Reduce your income to preserve the Personal Allowance
The Abatement of the Personal Allowance is a deduction that all employers are required to make to your earnings if they exceed £100,000. However, there are ways to reduce your income to below £100,000, allowing you to retain more of your tax-free Personal Allowance.
One of the ways you can do this is to transfer income-producing assets to a spouse or civil partner. For example, an individual with significant dividend or savings income may benefit from moving the shares or savings to a lower earnings spouse or civil partner. This will help reduce the amount of tax due and retain more of their Personal Allowance.
You can also make donations to a charity which are tax-free. The contributions will reduce your adjusted net income. However, please be aware that you will lose the benefit of that income for any donations made.
Perhaps the most popular way to preserve your Personal Allowance (especially when working via an umbrella company) is to increase the amount you contribute each payment frequency into your personal pension pot via salary sacrifice. Not only can you increase the amount you allocate to your pension each time you’re paid, but you are also reducing your adjusted net income to allow you to retain more of your Personal Allowance. Plus, contributions to your pension pot and not eligible for tax or National Insurance, making salary sacrifice a very tax-efficient way to save for retirement.
Contact us today for a free take home pay illustration
For more information about Umbrella Company UK’s salary sacrifice service, PAYE umbrella service, or to request a tailored take home pay illustration, please complete the short form on our website. Alternatively, if you would like to speak to one of our expert Sales Consultants, please give us a call on 01707 669023.