AJ Bell press comment – 9 January 2023
Parents with three young children face losing almost £14,000 in Government support towards childcare if they get a pay rise taking their annual earnings over £100,000.
First, they will lose their entitlement to Tax-Free Childcare, where you get up to £2,000 a year towards childcare costs for each child up to the age of 11. For a parent of three this would total a £6,000 loss, if their earnings tipped over £100,000.
On top of this, parents of three and four year olds in England are entitled to 30-hours free childcare a week during term time, until they hit income of £100,000 and it drops to just 15 hours. If you had two children entitled to the 30 hours and are paying for childcare in London, this represents a loss of almost £8,000 a year.
Once you put this together with income tax, National Insurance, student loan repayments and the personal allowance taper*, a £1 pay rise taking you over £100,000 means you could end up with an effective tax rate of 1,395,221%.
|
A parent of three, repaying a student loan, who gets a £100 pay rise, taking them over £100,000 |
||||||||
|
Payrise |
Tax @ 40% |
NI @ 2% |
Student Loan @ 9% |
Personal Allowance Taper |
Tax-free childcare loss for three children |
Loss of 15 hours free childcare |
Money you take home |
Effective tax rate |
|
£1.00 |
£0.40 |
£0.02 |
£0.09 |
£0.20 |
£6,000 |
£7,952 |
-£13,951.21 |
1,395,221% |
Source: AJ Bell. Tax-free childcare figures assume the individual is claiming the full £2,000 per child each year. Free childcare hours are for 38 weeks of the year, meaning losing 15 hours results in a loss of 570 hours of childcare a year. Based on the Coram childcare report, average outer London childcare costs for three and four year olds are £6.98 per hour.
Laura Suter, head of personal finance at AJ Bell, comments:
“While it’s a decent salary, £100,000 is rapidly becoming the most brutal earnings threshold to cross, particularly for parents, as not only are you subject to the personal allowance taper but you also lose tax-free childcare and your entitlement to an additional 15 hours of free childcare.
“The ridiculous tax system in this country is laid bare by examples like these, where someone who goes £1 over a certain threshold ends up losing thousands of pounds in Government support. The tragic thing is that many parents won’t be aware that they have fallen foul of the rules until the taxman comes knocking, landing them with a tax bill for thousands.
“Many people’s salaries are also unpredictable, meaning that a particularly good bonus or commission, or a bit of overtime, might just tip them over the threshold without them realising it. It means that rather than celebrating a salary boost they are left with a tax headache whereby they have to repay money they weren’t eligible for.
“Pensions are a lifeline in these scenarios, as the taxman considers your salary after pension contributions when looking at these thresholds. It means that if you think you’re going to tip over the £100,000 mark you can put a bit more in your pension so that you don’t lose your entitlement to tax-free childcare or the free childcare hours. People who are self-employed through their own business may want to consider whether they pay themselves a lower salary so they stay under the threshold, if that’s financially practical.”
*Personal allowance taper explained: Your Personal Allowance goes down by £1 for every £2 that your adjusted net income is above £100,000. This means your allowance is zero if your income is £125,140 or above.
