The 60% Tax Trap – How your pension could save you £1000s

A pay rise should be good news. But earn over a certain amount and the taxman could take a much bigger bite than you expect.

For some people, a pay rise, bonus or extra income can have consequences that aren’t immediately obvious.

One of the most common examples of this is the 60% tax trap – also known as the £100,000 tax trap.

Once your adjusted net income goes above £100,000, your Personal Allowance (the amount of money you can earn without needing to pay any tax) starts to be withdrawn. That can create an effective marginal tax rate of 60% on part of your income for some taxpayers in England, Wales and Northern Ireland.

In a double blow to parents, crossing that £100,000 threshold can also see you lose access to valuable free childcare hours and benefits.

It’s a situation many people don’t realise they are heading towards until they’re in it – at which point it can be too late to stop the losses.

How to prevent losses

If you are heading towards earnings of over (or already earn more than) £100,000, you should start to look at your pension as something more than just a way of saving for retirement.

Pension contributions can be an important part of managing your tax position. Depending on your circumstances, increasing your contributions could reduce your ‘adjusted net income’ (the amount HMRC uses to calculate how much tax you need to pay). Reducing your adjusted net income can bring you back down under the crucial threshold, and keep your Personal Allowance and childcare allowances in tact, while still allowing you to benefit from your increased earnings, bonus, or pay rise.

We’ve created a free tax trap calculator to help you explore exactly that. Simply enter your salary, savings interest, dividends, other income and pension contributions to see how they could affect your adjusted net income and whether making a pension contribution could help.

Try the £100k Tax Trap Calculator

It’s important to remember that pensions are a long-term investment and there are limits and rules around how much you can contribute. So, your own circumstances will ultimately determine whether increasing your contributions is right for you.

But the big lesson is this: don’t wait until your tax bill arrives to discover that a different decision could have left you better off.