What it is, how it works, why some people pay 60% income tax and ways to mitigate your tax bill.

Income tax is something most of us pay, but few truly understand. Whether you’re employed, self-employed, or receiving a pension, income tax affects your take-home pay, so understanding how it works can help you make better financial decisions and keep more of your money in your pocket.

What Is Income Tax?

Income tax is a tax on the money you earn. This includes:

• Wages and salaries
• Self-employment income
• Pensions
• Rental income
• Some savings and investment income
• Not all income is taxable - you get a tax-free Personal Allowance each year (more on that shortly).

How Much Income Tax Do You Pay?

The UK has a progressive tax system where the more you earn, the higher the rate of tax on the portion of income above certain thresholds.

Income Tax Bands for 2025/26 (England, Wales, and Northern Ireland)

Note: The Personal Allowance gradually disappears for incomes over £100,000 which is where you could pay an effective rate of 60% in income tax.

The Effective 60% Tax Trap

Once your income exceeds £100,000, you start to lose your Personal Allowance (the amount you can earn tax-free). This happens at a rate of £1 lost for every £2 of income over £100,000.

So, by the time your income reaches £125,140, you’ve lost the entire Personal Allowance.

This tapering creates a hidden 60% tax rate in the band between £100,000 and £125,140. Here's why:

For every extra £1 you earn in this band:

You pay 40% income tax, plus

You lose 50p of tax-free allowance, which is now taxed at 40% = another 20p tax.

Total: 40p + 20p = 60p tax on each extra £1 earned.

Example:

• David earns £110,000 from his salary. Here’s how this affects him:
• He is £10,000 over the £100,000 threshold.
• He loses £5,000 of his Personal Allowance (£1 lost for every £2 over).
• So instead of getting the full £12,570 tax-free, he only gets £7,570.
• That £5,000 of “lost allowance” is now taxed at 40% = £2,000 extra tax.
• Now imagine David earns £125,140:
• He has lost the full £12,570 allowance.
• He’s paying 40% tax on that amount = £5,028 extra tax.
• That means the extra £25,140 he earned (above £100k) resulted in a tax bill of over £15,000 — a 60% effective tax rate.

What About National Insurance?

National Insurance is separate from income tax but often deducted at the same time if you're employed. (We’ll cover that in the next blog post tomorrow)

How to Mitigate Your Income Tax

There are several ways to reduce the amount of income tax you pay:

Contribute to a Pension

Pension contributions are tax-deductible.

E.g., contribute £100 to your pension, and it may only “cost” you £80 after tax relief.

Use the Marriage Allowance

If you earn less than your Personal Allowance and your spouse is a basic-rate taxpayer, you can transfer up to £1,260 of your allowance, saving up to £252 a year.

Gift Aid Donations

Charitable donations can increase your basic-rate band and reduce tax if you’re a higher-rate taxpayer.

Salary Sacrifice Schemes

Some employers offer salary sacrifice for pensions, cycle-to-work schemes, or electric car leases — which can reduce your taxable income.

Make Use of ISA Allowances

Income from ISAs (up to £20,000 per year) is not subject to income tax.

Use Venture Capital Trusts or Enterprise Investment Schemes (EIS)

These high-risk investments that offer generous tax reliefs, including up to 30% income tax relief and can be especially useful for high earners. Learn more on this on our guide - Venture Capital Trusts (VCT)

Final thoughts

Income tax doesn't have to be confusing. Understanding the bands and how your income is taxed means you can plan ahead and even reduce your bill, all within the rules.

If you’re unsure about your own situation, or you’re looking to become more tax-efficient, it’s always worth speaking to a financial adviser.

This article is for general information only and does not constitute financial or tax advice. Income tax planning is not a regulated activity, but some strategies mentioned, such as pensions, ISAs, and high-risk investments like VCTs or EIS—may involve regulated products. These may not be suitable for all investors.

Tax treatment depends on individual circumstances and may change. Always seek personalised advice before making financial decisions.