Martin Lewis has issued a stark warning to taxpayers, cautioning that an additional £1 could push them over the “cliff’s edge” of income tax.
However, he also outlined some strategies to avoid this pitfall. On the Not the Martin Lewis Podcast, one caller posed a question about their income tax situation, finding themselves teetering on the brink of entering the higher rate band.
Joined by tax experts Kari Mellon and Rebecca Benneyworth, the Money Saving Expert expressed his exasperation at the “cliff’s edge” nature of the income tax brackets and explained how workers can dodge the higher rates.
The caller, named Helen, pointed out that not only would the higher rate band result in her paying 40% income tax, but it would also slash her personal savings allowance, leaving her with just £500 of savings interest tax-free each year, down from £1,000.
Rebecca confirmed Helen’s concerns, stating: “There’s quite a few of these cliff edges in the tax system… If you earn an extra pound of income, all of a sudden you’ve lost £500 of exemption.”
The tax expert suggested that Helen withdraw some money from her savings to evade the tax on her interest or consider “moving some to a lower interest rate account”.
Meanwhile, Martin proposed that she could also channel more of her income into her pension to prevent being categorised in the higher rate of tax in the first place.
At present, the upper limit for earnings, encompassing both employment and savings interest, for the basic rate of income tax stands at £50,270.
He elaborated: ” Let me give you a scenario on this, if your income from work is £49,350 and your interest from savings is £900 then your total income is £50,250 which is £20 below the 40% rate. That means, all of your savings are within your personal savings allowance and all of them are tax-free.
“Now let’s imagine you earn £30 more interest, so you still earn from work £49,350 but your interest from savings is £930. Your total income is now £50,280. You are now a higher-rate taxpayer under the law. So your personal savings allowance is now just £500. On your £930 of interest, £500 is tax-free, £420 is taxed at 20% and £10 is taxed at 40%.”
Drawing a comparison between the two scenarios, Martin stressed: “You only get £842 take-home interest on £930. You got £900 take-home interest on £900. So you would’ve been better to earn less interest.”
He pointed out that Helen could also deposit the extra money into a cash ISA, which is inherently tax-free and criticised the “annoying cliff edge”.
