Personal Tax Allowance – Increases from September to reduce the impact of removing the 10% tax rateMonday, May 19th, 2008
- the personal allowance will be increased by £600, from £5,435 to £6,035, giving a new emergency tax code of 603L
- the basic rate limit, the amount of earnings on which 20% tax is due, will be reduced from £36,000 to £34,800, and, as a result,
- the higher rate threshold, the point from which 40% tax is due on earnings (i.e. the sum of the personal allowance and the basic rate limit), will be reduced from £41,435 to £40,835.
The overall effect is to reduce the taxable pay of 20% taxpayers by £600 during 2008/09, with a resulting fall of £120 in the amount of tax paid in the year. Some 600,000 low-paid employees will stop paying tax altogether.
The changes will be introduced in September 2008 but will apply retrospectively (for employees with cumulative tax codes) from the start of the tax year. The actual date in September has not yet been announced but, based on the Chancellor’s comment that monthly-paid employees would benefit from the change in their pay for September, the automatic increase in “L” suffix tax codes may occur for paydays on or after 7 or 14 September, i.e. tax week 23 or 24.
The effect will be that employees with the new 603L emergency tax code applied on a cumulative basis,
- will stop paying tax altogether if they have annual earnings that do not exceed £6,035
- will pay £120 less tax over the tax year (i.e. £600 @ 20%) if their annual earnings exceed £6,035
- will start to pay tax at 40% if their annual earnings exceed £40,835
- will pay tax at the same level if their annual earnings are £41440 or more
The Chancellor did not claim that the increase in the personal allowance would remove altogether the effect of scrapping the 10% tax rate and, indeed, employees earnings between £6,035 and £10,510 will still pay more tax than they would have done if the 10% rate had remained in place. At the same time, employees earning between £16,000 and £40,000, who were already benefiting from the April 2008 changes, are gaining a further £120 a year in their net pay.
The following chart compares the effect of the changes that were introduced from April 2008 (i.e. personal allowance of £5,435 and basic rate limit of £36,000) with the further changes that are to be implemented in September 2008 (i.e. personal allowance of £6,035 and basic rate limit of £34,800). The personal allowance used for 2007/08 is £5,225.
There are no changes to the age 65 and 75 personal allowances. These have already been increased substantially from April 2008.
From a payroll perspective, there are many, and as yet unanswered, questions and issues raised by this announcement.
- The NICs earnings threshold has been set at the same level as the tax threshold since 2001. The starting point for the payment of both income tax and NICs is currently set at £5,435 for both taxes. The Chancellor made no mention of any corresponding increase to the NICs earnings threshold so it would appear that the two rates will diverge from September 2008.
- If the lower thresholds for tax and NICs are going to be different in future, there must be a question mark over the Government’s intention, from April 2009, to align the higher rate tax threshold with the NICs upper earnings limit. If the policy remains intact, the reduction in the higher rate threshold from September 2008 will result in a lower aligned figure from April 2009, down from an anticipated £44,000 to £43,300.
- The changes introduce a major unplanned project into HMRC’s schedule and budget for the year, involving new technical specifications for developers, revised Helpbooks and Employer CD-ROM, communicating changes that will affect every employer’s payroll at an unprecedented time of the year, issuing new P2 coding notices to taxpayers and new P9 coding notices to employers for employees without L-suffix codes (as if it were the start of a new tax year), and considerable scope for errors!
- All of the payroll software developers will have what is effectively an additional year-end update to build, test and issue for the September deadline. The development will involve considerable structural changes to their systems as, in general, they have not been designed to handle three different sets of tax rules within the same tax year. Like HMRC, they will also incur costs for which they have not budgeted and will be putting demands on development staff who will already either have planned holidays during the summer period or be committed to in-year filing and new P45 developments.. Depending on the terms of the licenses with their clients, the developers may not be able to pass on these additional costs.
- Employers are also likely to have similar resource and financial issues to address. Many of the staff in payroll departments and IT departments will be taking holiday after the end of the year-end reporting period, creating potential risks in successfully installing and testing the necessary new payroll updates.
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