07718128235
omar@aswatax.co.uk
07718128235
omar@aswatax.co.uk
March 25, 2024

How Does The UK Tax System Work: A Beginner's Guide 2024

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Paying taxes can be quite tedious with all the rules, deadlines, and forms involved. 


Confused on the UK tax system? One can easily get frustrated trying to understand what to pay, when to pay, and how to minimize tax liabilities so you’re not paying more than you should, or even how to avoid getting into reputation-damaging problems from evading or underpaying taxes.

I understand how dear your business and reputation are to you and that’s why I have taken the time to create this comprehensive tax guide for you.

In this blog post, I’m going to attempt to break down the entire tax system for you and equip you with the fundamental knowledge you need to successfully navigate the tax system.

Let’s get to it then, shall we?

Understand UK Tax Update
Understand UK Tax Update

Table of Contents

Role of HM Revenue & Customs in the UK Tax System

Before we address the tax system, we need to pay homage to the big boss at the top.

That’s right, the one controlling the system and calling the shots.

Let’s take the time to understand who they are and what their role is. Because, trust me, you’re going to run into them more often as you go about working hard to earn a good living.

Who are HMRC?

HM Revenue & Customs, or HMRC, is like the guardian of the UK's treasury. 

They're the folks in charge of collecting the money that keeps our public services running—from healthcare to education. But HMRC's role isn't just about collecting taxes; they also handle things like state support payments and help ensure that tax laws are followed.

What Does HMRC Do?

  • Tax Collection: HMRC collects most of the taxes you've probably heard about, like Income Tax, Corporation Tax, and VAT. They ensure that individuals and businesses pay the right amount of tax on time.
  • Customs and Duties: If you've ever ordered something from abroad, HMRC is the body that manages the customs duties and import VAT.
  • Tax Law Enforcement: They make sure everyone plays by the rules, tackling tax evasion and fraud to keep things fair.
  • Support and Guidance: HMRC provides a ton of resources and support to help taxpayers understand their obligations. They offer guidance through their website, helplines, and online services.

Why is HMRC Important for You?

The HMRC are not just there to take your money; they're also there to help and guide you through your tax responsibilities. 

Whether you're filing a tax return or setting up a new business, knowing how HMRC operates and what resources they offer can make your tax journey much smoother.

How the UK Tax Year Works: A Guide for New Taxpayers

Now that we know who’s calling the shots, we can explore the UK tax system and break it down starting with the tax year.

The UK Tax Year Explained

In the UK, the tax year has its own unique calendar that might seem a bit unusual at first glance. It starts on April 6th and ends on April 5th of the following year. 

But why these dates? It's a historical quirk that has continued through the years. 

New Tax Year and Laws
New Tax Year and Laws

For tax purposes, this period defines the timeframe for calculating your taxes, whether you're an employee, a business owner, or self-employed.

Key Dates to Remember

- April 6th: Start of the new tax year.

- January 31st: Deadline for online self-assessment tax returns for the previous tax year.

- July 31st: Payment on account deadline for self-assessment taxpayers.

Keeping track of these dates is crucial to avoid any late penalties and to stay on top of your tax responsibilities.

Understanding Income Tax Rates and Thresholds in the UK

Income tax is probably the tax you'll hear about the most. It's a tax on the money you earn, including wages, pensions, and savings interest over a certain threshold.

Here's how it breaks down:

Income Tax Bands

  • Personal Allowance: Up to £12,570 (for the 2022/23 tax year) of your income is tax-free.
  • Basic Rate: 20% on income over the Personal Allowance and up to £50,270.
  • Higher Rate: 40% on income between £50,271 and £150,000.
  • Additional Rate: 45% on income over £150,000.

What Counts as Income?

- Wages from employment

- Profits for the self-employed

- Certain benefits

- Pensions

- Rental income

- Interest on savings (over your savings allowance)

What is National Insurance and How Does It Work?

National Insurance (NI) might sound like an insurance policy, but it's actually another key tax that contributes to the UK's welfare system, including state pensions and the NHS.

National Insurance Policy
National Insurance Policy

NI Contributions

  • Employed Persons: If you're employed, you'll pay Class 1 NI contributions automatically through your salary.
  • Self-Employed Persons: If you're self-employed, you'll pay Class 2 (a flat weekly rate) and Class 4 NI contributions (a percentage of your profits).

Corporation Tax Basics for UK Businesses

If you run a company, you'll need to pay Corporation Tax on gain.  Unlike income tax, there's no personal allowance for businesses—the current rate is 25% for all profit levels.

Key Points for Businesses

- File a Company Tax Return annually.

- Pay your Corporation Tax bill or report if there's nothing to pay.

Guide to Value Added Tax (VAT) for UK Consumers

VAT is a tax that's added to most goods and services in the UK. 

As a consumer, you pay VAT at the time of purchase, but businesses need to handle VAT in a specific way.

VAT Rates

  • Standard Rate: 20% on most goods and services.
  • Reduced Rate: 5% on some goods and services, like children's car seats and home energy.
  • Zero Rate: 0% on essentials like food and children's clothes.

Businesses with a taxable turnover above a certain threshold must register for VAT and charge VAT on their products or services.

Capital Gains Tax Explained for UK Residents

Capital Gains Tax (CGT) is a tax on the profit when you sell something that's increased in value. It's the gain you're taxed on, not the amount of money you receive which is termed 'proceeds'. Effectively, it is proceeds less base cost (and other enhancement expenditure) which gives you your gain. 

The annual exemption ..... amount to include for the 2023-24 tax year.

Examples of Assets Subject to CGT

- Personal possessions worth £6,000 or more, excluding your car

- Property that's not your main home

- Shares not in an ISA or PEP

- Business assets

There are annual exempt amounts and specific reliefs that can reduce your CGT bill.

Inheritance Tax in the UK: Thresholds and Rates

Inheritance Tax is a tax charged on your estate (property, money, and possessions) when you pass away. 

There's normally no tax to pay if the value of your estate is below the £325,000 threshold or if everything above the threshold is left to your spouse, civil partner, a charity, or a community amateur sports club. The nil rate band of £325,000 has been frozen till 2026.... and my view is that it should rise in the near future.

Inheritance Tax in UK
Inheritance Tax in UK

Understanding Property Taxes: Council Tax and SDLT in the UK

Property taxes are a significant part of the UK tax system, with Council Tax paid by households and Stamp Duty Land Tax (SDLT) paid on property purchases.

Council Tax

- Based on the property's valuation band.

- Varies by local council.

SDLT

- Paid on properties over a certain value.

- Rates and thresholds vary.

Determining Tax Residency and Domicile Status in the UK

Understanding your tax residency and domicile status is crucial because it affects how much tax you pay in the UK, especially if you have international ties. 

To be honest, the UK residency is extremely complex and professional advice must be sought. Let me try to keep it basic though.

What is Tax Residency?

  • Tax Residency: It's about where you live and work most of the year. If you spend 183 days or more in the UK within a tax year, you're considered a UK tax resident.
  • Temporary Residents: If you're in the UK for a short period or for a specific reason (like a work contract), your tax situation might be different.

What Does Domicile Mean?

Domicile: This concept is a bit trickier. It's about where your 'permanent home' is considered to be, which could be different from your residence. 

You might live in the UK but be domiciled elsewhere, affecting your tax obligations. Domicile has a direct effect on income tax and inheritance tax primarily.

Why They Matter

  • Your tax residency and domicile status influence what income is taxable in the UK.
  • Non-UK domiciled residents might only pay tax on the income they bring into the UK, depending on their status.

UK Income Tax Bands and Personal Allowances Explained

The amount of Income Tax you pay depends on how much money you make and the tax-free allowances you can claim. Let's break it down.

Personal Allowance

Tax-Free Income: Most people can earn up to £12,570 without paying tax. This is called your Personal Allowance.

Income Over the Allowance: Money you earn above this amount is subject to tax.

UK Tax System

Income Tax Bands

  • Basic Rate (20%): This rate applies to income over your Personal Allowance up to £50,270.
  • Higher Rate (40%): For incomes between £50,271 and £150,000.
  • Additional Rate (45%): This applies to income over £150,000.

Special Cases

  • Income Over £100,000: Your Personal Allowance decreases by £1 for every £2 you earn over £100,000.
  • Savings: Special rates and allowances apply for income from savings. 

Maximising Savings and Dividend Allowances in the UK

Apart from your salary or business income, you might also have income from savings and investments. The UK offers allowances for these too.

Savings Allowance

  • How Much Is Tax-Free?: Basic rate taxpayers can earn £1,000 in savings interest tax-free. This drops to £500 for higher rate taxpayers and £0 for additional rate taxpayers.

Dividend Allowance

  • Tax-Free Dividends: You can earn up to £2,000 in dividends without paying tax, regardless of your other income.

Tax Rates on Excess

  • Savings: Interest beyond your allowance is taxed at your usual Income Tax rate.
  • Dividends: Tax rates on dividends over the allowance are lower than Income Tax rates, ranging from 7.5% to 38.1%, depending on your tax band.

Paying Taxes through PAYE: What UK Employees Need to Know

If you're employed in the UK, chances are you're part of the PAYE system.

PAYE, or Pay As You Earn, is how your income tax and National Insurance contributions are deducted directly from your salary by your employer.

How PAYE Works

  • Automatic Deductions: Each time you're paid, your employer calculates and deducts your tax and National Insurance contributions.
  • Tax Code: Your tax code, issued by HMRC, tells your employer how much tax to deduct. It reflects your Personal Allowance and any adjustments for benefits or unpaid taxes.

Checking Your Payslip

  • Gross Pay: Your total earnings before any deductions.
  • Net Pay: What you take home after deductions.
  • Deductions: Listed on your payslip, including tax, National Insurance, and any pension contributions.

Common Issues

Wrong Tax Code: Can lead to over or underpaying tax. Always check your tax code on your payslip against your notice from HMRC.

Navigating the Self-Assessment Tax System in the UK

Self-Assessment is for those not completely (or fully)covered by PAYE.

If you're self-employed, a freelancer, or have other income sources like rental income, you'll likely need to file a tax return each year.

Registering for Self-Assessment

  • Deadline: Register by the 5th of October in your business's second tax year.
  • Unique Taxpayer Reference (UTR): You'll receive a UTR number from HMRC, necessary for filing your returns.

Filing Your Tax Return

  • Online or Paper: You can submit your tax return online (by January 31st) or by post (by October 31st).
  • Record-Keeping: Keep detailed records of your income and expenses to accurately fill out your tax return.

Payments on Account

  • Advance Payments: If your tax bill is over £1,000, you might need to make 'payments on account' towards next year's bill, in two instalments.

How to Claim Tax Reliefs and Deductions in the UK

Tax reliefs and deductions can reduce your tax bill by accounting for certain expenses or contributions you've made. Knowing what you can claim is key to maximizing your take-home pay.

Work-Related Expenses

  • Uniforms and Tools: Costs for cleaning, repairing, or replacing specialist clothing.
  • Travel and Mileage: Expenses for business travel that isn't regular commuting.
  • Professional Fees: Memberships to certain professional bodies if necessary for your job.

Charitable Donations

Gift Aid: Increases the value of your donations to charities, and you can claim back the difference between the basic rate of tax and the higher or additional rate on the donation amount.

Other Deductions

  • Pension Contributions: Contributions to a pension scheme can reduce your taxable income.
  • Marriage Allowance: Transfer a portion of your Personal Allowance to your spouse if they earn less.

Essential Tax Documents for UK Taxpayers

Navigating the UK tax system means dealing with various documents. 

Whether you're employed, self-employed, or running a business, understanding these documents is key to managing your taxes effectively.

P60: End of Year Certificate

  • What It Is: A summary of your salary and the taxes deducted over the financial year, provided by your employer.
  • Importance: Essential for proving your earnings and taxes paid, useful for loan applications, and claiming overpaid tax.

P45: Details of Employee Leaving Work

  • What It Is: A document you get when you leave a job, detailing your pay and the taxes you've paid up to that point.
  • Usage: Vital for starting a new job and ensuring you're on the correct tax code, and also for claiming a tax refund if you're unemployed.

SA100: Self-Assessment Tax Return Form

  • For Whom: If you're self-employed, a freelancer, or have other income sources, you'll use this form to report your earnings and calculate the tax owed.
  • Components: Includes sections for your income, tax reliefs, and any allowances you're claiming.

Resolving Tax Errors and Disputes with HMRC

Even with the best intentions, sometimes things go wrong with taxes. Whether it's an incorrect tax code, a dispute over your tax bill, or other issues, there's a way to resolve it.

Checking Your Tax Code

  • First Step: If you think your tax code is wrong, check it against your P60 and any other income sources. HMRC might have outdated information.
Tax Errors And Issues
Tax Errors And Issues

Contacting HMRC

  • Communication is Key: Reach out to HMRC directly for clarification or to dispute errors. Use the contact details on their official website or your tax documents.

Official Appeals

  • Formal Process: If informal resolution doesn't work, you can appeal against a tax decision. There's a specific process, including deadlines, so read HMRC's guidelines carefully.

Seeking Professional Help

  • Tax Advisors: For complex issues or significant disputes, consider hiring a professional tax advisor at ASWATAX. We have expert tax professionals who can provide expertise and represent you in dealings with HMRC so you don’t have to do it all by yourself. 

Conclusion 

Finally, we have come to an end. Congratulations on making it through this comprehensive guide to the UK tax system! 

I know it’s a lot, right? It sure is.

We've covered a lot of ground, from understanding the basics of the UK tax year to diving deep into specific tax types, how to pay them, and what to do if things don't quite add up. 

Here's a quick recap of what we've learned:

  • The UK Tax Year: Runs from April 6th to April 5th, with key dates for filing returns and making payments.
  • Types of Taxes: Including Income Tax, National Insurance, Corporation Tax, VAT, Capital Gains Tax, Inheritance Tax, and Property Taxes.
  • Tax Authorities: HMRC is your go-to for tax collection, guidance, and support.
  • Paying Taxes: Through PAYE for employees and Self-Assessment for others.
  • Tax Reliefs and Deductions: Can significantly reduce your tax bill if you know what you're eligible for.
  • Essential Documents: Like P60, P45, and SA100 forms, are crucial for managing your taxes.
  • Resolving Issues: If there's a hiccup with your taxes, knowing how to approach HMRC and when to seek professional help is key.

We have done our best to give you a brief overview of the entire system, with this information in hand you now understand what’s involved and how to easily navigate the system. 

But just keep in mind that tax advice requires a bespoke service - not off the shelf or via the internet and this is what we provide at ASWATAX. You can reach out to us today for professional advice for your specific circumstances. 

Thanks for reading!

Meet Omar

Omar is a Chartered Tax Advisor (a.k.a an expert on tax issues) and founder of ASWATAX. He regularly shares his knowledge and best advice here in his blog and on other channels such as LinkedIn.
Book a call today to learn more about what Omar and ASWATAX can do for you.

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