Higher Earners May Decline Raises to Avoid Tax Hikes, Survey Finds

More than half of individuals earning £100,000 or more would consider declining, deferring, or restructuring a pay raise to avoid increased tax liabilities, according to a recent survey. The findings highlight concerns among high earners, often referred to as 'High Earners, Not Rich Yet' (HENRYs), about the impact of frozen income tax thresholds on their net income.

The survey, conducted by RBC Wealth Management, polled 750 HENRYs. It revealed that 55% would consider foregoing a pay increase for tax reasons. Additionally, 46% of these higher earners are increasing pension contributions to lower their taxable income.

Income tax thresholds in the UK have been frozen since April 2021, meaning pay raises can push individuals into higher tax brackets. Those earning over £50,270 face a 40% tax rate on income above that level, and those exceeding £125,140 are subject to a 45% rate. A particular point of concern is the effective 60% marginal tax rate for income between £100,000 and £125,140, a result of the gradual withdrawal of the tax-free personal allowance.

This '60% tax trap' means that for every additional pound earned within this bracket, individuals effectively keep only 40 pence after tax. The tax-free personal allowance, which is £12,570, is reduced by £1 for every £2 earned above £100,000, completely disappearing at £125,140. This mechanism effectively increases the higher tax rate in this segment.

Beyond the direct income tax implications, individuals reaching the £100,000 income mark also face the abrupt withdrawal of certain benefits, such as free childcare. In England, parents earning over £100,000 lose their entitlement to 30 hours of free childcare per week, a benefit that can be worth tens of thousands of pounds annually for families with multiple young children.

HM Revenue & Customs has estimated that nearly 1.5 million people experienced this 60% tax rate due to the loss of their personal allowance in the last tax year. What was once a niche issue has become more widespread due to the extended freeze of the £100,000 threshold.

The survey also indicated a disconnect between earning more and feeling financially better off, with 79% of HENRYs agreeing with this sentiment. When faced with an unexpected bill of £2,000 to £5,000, 48% of respondents stated they could not use savings and would need to resort to loans, financial help from family, selling investments, or salary advances.

To mitigate the impact of the 60% tax trap, strategies such as increasing pension contributions are common. Contributing to a pension can reduce adjusted net income, potentially restoring the full personal allowance if income falls below £100,000. For example, an £8,000 pension contribution, with basic-rate tax relief added, results in £10,000 going into the pension, bringing an income of £110,000 down to the £100,000 threshold.

Other methods to lower taxable income include participating in salary sacrifice schemes, such as those for cycling to work or electric car leases, though these benefits are set to be capped from April 2029. Charitable donations made through Gift Aid also reduce adjusted net income in a similar manner to pension contributions.

Official policies have kept income tax thresholds frozen, with current projections indicating this will continue until at least the 2030-31 tax year, affecting a growing number of higher earners. The upcoming budget is also anticipated to maintain these frozen thresholds.