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| Please show your working - as my maths teacher used to say! |
Actually, the rules on British income tax are really remarkably simple. Here are the current rules in 2017:
| Band | Taxable income | Tax rate |
|---|---|---|
| Personal Allowance | Up to £11,000 | 0% |
| Basic rate | £11,001 to £43,000 | 20% |
| Higher rate | £43,001 to £150,000 | 40% |
| Additional rate | over £150,000 | 45% |
So let's look at how these rules are applied to three people: a waitress, a head teacher and an investment banker.
Milly is a waitress and earns just £14,000 a year.
Milly's income = £14,000
Tax free allowance = £11,000
Milly's taxable income: £14,000 - £11,000 = £3,000
At basic rate, Milly pays: £3,000 x 20% = £600
The percentage of Milly's income that goes on income tax: £600 / £14,000 = 4.28%
Milly's income after income tax = 14,000 - £600 = £13,400
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| Waiters/Waitresses earn very little in the UK. |
Carmen is a head teacher and he earns £45,000 a year.
Carmen's income = £45,000
Tax free allowance = £11,000
Carmen's taxable income: £45,000 - £11,000 = £34,000
Income to be taxed at 20%: £43,000 - £11,000 = £32,000
Income tax levied at 20%: £32,000 x 20% = £6,400
Income to be taxed at 40%: £45,000 - £43,000 = £2,000
Income tax levied at 40%: £2,000 x 40% = £800
Carmen's total tax bill: £6,400 + £800 = £7,200
The percentage of Carmen's income that goes on income tax: 7200 / 45,000 = 16%
Carmen's income after income tax = 45,000 - 7,200 = £37,800
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| The pay for a teacher is pretty respectable in the UK. |
Ed is an investment banker who earns £200,000 a year.
Ed's income = £200,000
Tax free allowance = £11,000
Ed's taxable income: £200,000 - £11,000 = £189,000
Income to be taxed at 20%: £43,000 - £11,000 = £32,000
Income tax levied at 20%: £32,000 x 20% = £6,400
Income to be taxed at 40%: £150,000 - £43,000 = £107,000
Income tax levied at 40%: £107,000 x 40% = £42,800
Income to be taxed at 45% = £200,000 - £150,000 = £50,000
Income tax levied at 45% = £22,500
Ed's total income tax bill = £6,400 + £42,800 + £22,500 = £71,700
The percentage of Ed's income that goes on income tax: 16%: 71,700 / 200,000 = 35.85%
Ed's income after income tax = 200,000 - 71,700 = £128,300
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| You wanna earn big bucks? Go into banking. |
So after we have done the calculations, you can see that some like Ed not only pays a lot more taxes than Milly, but his overall income tax rate comes in at 35.85% - that's over eight times that of Milly's at just 4.28%. Pardon me for stating the obvious, but rich people like Ed obviously are taxed more heavily as they can afford to pay more, whilst someone like Milly who is earning very little will get away with paying far less tax. The term 'Robin Hood' comes to mind: tax the rich and spend that on helping the poor. The British tax system is designed to help people like Milly make ends meet as she is entitled to many schemes and subsidies as a low-income citizen. With the amount of money Ed earns, he still has plenty of money left over after his income tax is paid to enjoy a very nice lifestyle whilst someone like Milly may pay far less tax, but she is always going to be struggling to make ends meet as a waitress earning so little money. Someone like Ed will probably like in a gorgeous, big house, drives a nice car, send his kids to expensive private schools, take plenty of exotic holidays whilst someone like Milly will probably be still living with her parents, walk to work because she can't even afford public transport and has never left the country in her life. If Milly really wants to improve her lot in life, she needs to get a better job to earn more money. Perhaps she needs to get more training to enable her to do a more highly skilled job especially if there is little scope for any career advancement as a waitress.
You see, it totally baffles me how Singaporeans (who are supposedly good at maths) get this so incredibly wrong. Even within the British tax system, Ed and Milly are not taxed at the same rate. Yet is Milly any better off just because she pays far less taxes at just 4.28% than Ed's 35.85%? No clearly not. Even if the government decides to raise the tax free allowance tomorrow and create a situation whereby Milly no longer needs to pay any income tax at all: guess what? She's still very poor and struggling to make ends meet. Imagine if both Milly and Ed lived in London, to buy a very modest one bedroom flat in central London (and not the suburbs), you'll need at least half a million pounds and that will get you a tiny shoe box. To get a decent house big enough to raise a family still within zones 1 and 2, you need a budget of one million pounds. Someone like Milly would spend virtually every penny she earns on basics like rent, food, clothes and she'll probably be in debt. Whereas someone like Ed can easily get a mortgage to buy a very nice property in London. In short, there is an inverse relation between tax rate and standard of living - those who pay more taxes (like Ed and Carmen) always have a better standard of living than someone like Milly, who pays very little.
Except of course, someone like Ed probably wouldn't pay 35.85% income tax in the real world because there are ways he can reduce his tax bill legally. He would most probably end up paying much less than that. If you have a tax bill as much as £71,700 - then you would use various legal tax avoidance schemes to minimize your income tax liability. This is quite different from tax evasion whereby one cheats on one's taxes to avoid paying taxes - tax avoidance schemes are completely legal but if one is exposed using such loopholes in the system, then well you may look like the bad guy who isn't paying his fair share of taxes. It is at best morally questionable, but completely legal. British comedian and TV presenter Jimmy Carr is a multimillionaire and if he channeled all his earnings through the British income tax system, then he would see most of it see nearly 40% of it go on income tax (as in the case of Ed). Jimmy Carr used a tax avoidance scheme which was completely legal, but when that came to light, he faced castigation by the media.
Here's an explanation in a nutshell: imagine if a very famous British actor (let's call him Jim Car) is contracted to do a major Hollywood film and the fee is £10 million. Instead of paying Jim Car through the UK tax system (which will see that £10 million subject to a lot of taxes), Jim Car sets up an offshore company domiciled in another country (typically a tax haven like Panama) which is way beyond the reach of the British government even if the film was shot in London. Jim Car's £10 million fee is paid into that offshore company in Panama - so whilst Jim Car owns the company in Panama, the money is the property of the company whilst is Panamanian, not British. So effectively, the British government cannot touch the £10 million that Jim Car has earned for this film as long as it doesn't enter the British system. The Panamanian government is quite happy to offer people like Jim Car the chance to park their money there, because it then supports a thriving offshore financial services industry in their country. All this of course, is completely legal. If Jim Car then goes on to spend the money in a third country (say if he buys a house in the Dominican Republic, a yacht in the Japan or a private jet in Russia), then the money will stay well out of reach of the British tax system.
So you may say, hey if someone like Jim Car can hide their income from the government, why don't others like Ed, Carmen and Milly do the same so nobody has to pay any taxes? It is simple: people like Carmen and Milly need access to all the money they earn for their daily needs. They use their earnings to buy food, pay their utility bills, their phone bills, to go shopping, to pay the rent/mortgage etc. If that money is parked offshore in Panama, then they can't access it. Even in Ed's case, if he wants to get a mortgage to buy another house, then the bank providing his mortgage will need to do a full background check and due diligence to see the source of his income, then he won't be able to keep his wealth offshore and even if he does have money stashed away offshore legally, he'll have to bring that income into the British system whereby it will be taxed before he can use it to say as a deposit when he buys a house. However, if Ed already owns his house (all paid up in full), has no plans to make any big purchases in the UK and is still earning a lot of money, then at that point, he can start stashing his money offshore to avoid paying more tax.
Here's a typical scheme that many rich people like Ed would use - imagine if Ed has a son, let's call him Paul. Ed knows that Paul will one day want to go to university and that is going to be expensive if Paul chooses to study something like medicine. So Ed sets up a an offshore trust fund for Paul's education - Ed arranges for part of his income to be paid directly to an offshore trust in Panama so it will not be taxed through the British system. The money sits offshore for years, being managed by an investment manager and until the time Paul is ready to start university. At that point, Ed transfers all ownership of the offshore trust to Paul, whom as a student has no income thus is not subject to any income tax at all. Paul uses the money from his offshore trust to pay his university school fees and all other living expenses for the entire period he is in medical school - that is money that Ed is going to have to spend anyway, but making these arrangements, he has effectively avoided income tax for that pot of money which is a sizable saving.
These schemes however, are expensive to arrange and whether or not it is worth pursuing depends entirely on your income. To set up one of these tax avoidance schemes, you need to engage the services of a team of fiduciary experts, tax advisers, lawyers, administrators, investment managers and other specialists. Let's put a figure on it: say it costs £50,000 a year to run such a scheme. Would a teacher like Carmen want to spend £50,000 a year to avoid paying £7,200 in taxes? No, it doesn't make sense, especially when she earns less than £50,000 a year. But would Ed want to spend £50,000 a year to avoid paying £71,700 in taxes? Oh yes. Now you're talking. Would a super rich actor like Jim Car spend £50,000 a year to avoid paying several millions in taxes? Of course he would. You need to do the maths to figure out whether it is worth their while trying to avoid income tax and the decision is not based on morals, but plain old statistics. You can't argue with the numbers. So how much income tax a very rich person like Ed or Jim Car really pays, well you never really know and they'll never tell you but it's probably a lot less than you think.
So there you go, that's an introduction on how the tax system in the UK works. Before you mention it, yes there is also national insurance (also known as social security) contributions in the UK, but the amount of national insurance contribution we pay is tiny compared to the amount of income tax most of us pay, that's why I am leaving it out of the equation and focused on just income tax. If you have any questions, please let me know. Many thanks for reading.
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| Someone like Milly will never be able to afford her own home. |
Except of course, someone like Ed probably wouldn't pay 35.85% income tax in the real world because there are ways he can reduce his tax bill legally. He would most probably end up paying much less than that. If you have a tax bill as much as £71,700 - then you would use various legal tax avoidance schemes to minimize your income tax liability. This is quite different from tax evasion whereby one cheats on one's taxes to avoid paying taxes - tax avoidance schemes are completely legal but if one is exposed using such loopholes in the system, then well you may look like the bad guy who isn't paying his fair share of taxes. It is at best morally questionable, but completely legal. British comedian and TV presenter Jimmy Carr is a multimillionaire and if he channeled all his earnings through the British income tax system, then he would see most of it see nearly 40% of it go on income tax (as in the case of Ed). Jimmy Carr used a tax avoidance scheme which was completely legal, but when that came to light, he faced castigation by the media.
Here's an explanation in a nutshell: imagine if a very famous British actor (let's call him Jim Car) is contracted to do a major Hollywood film and the fee is £10 million. Instead of paying Jim Car through the UK tax system (which will see that £10 million subject to a lot of taxes), Jim Car sets up an offshore company domiciled in another country (typically a tax haven like Panama) which is way beyond the reach of the British government even if the film was shot in London. Jim Car's £10 million fee is paid into that offshore company in Panama - so whilst Jim Car owns the company in Panama, the money is the property of the company whilst is Panamanian, not British. So effectively, the British government cannot touch the £10 million that Jim Car has earned for this film as long as it doesn't enter the British system. The Panamanian government is quite happy to offer people like Jim Car the chance to park their money there, because it then supports a thriving offshore financial services industry in their country. All this of course, is completely legal. If Jim Car then goes on to spend the money in a third country (say if he buys a house in the Dominican Republic, a yacht in the Japan or a private jet in Russia), then the money will stay well out of reach of the British tax system.
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| You can reduce your tax burden legally by using some schemes. |
So you may say, hey if someone like Jim Car can hide their income from the government, why don't others like Ed, Carmen and Milly do the same so nobody has to pay any taxes? It is simple: people like Carmen and Milly need access to all the money they earn for their daily needs. They use their earnings to buy food, pay their utility bills, their phone bills, to go shopping, to pay the rent/mortgage etc. If that money is parked offshore in Panama, then they can't access it. Even in Ed's case, if he wants to get a mortgage to buy another house, then the bank providing his mortgage will need to do a full background check and due diligence to see the source of his income, then he won't be able to keep his wealth offshore and even if he does have money stashed away offshore legally, he'll have to bring that income into the British system whereby it will be taxed before he can use it to say as a deposit when he buys a house. However, if Ed already owns his house (all paid up in full), has no plans to make any big purchases in the UK and is still earning a lot of money, then at that point, he can start stashing his money offshore to avoid paying more tax.
Here's a typical scheme that many rich people like Ed would use - imagine if Ed has a son, let's call him Paul. Ed knows that Paul will one day want to go to university and that is going to be expensive if Paul chooses to study something like medicine. So Ed sets up a an offshore trust fund for Paul's education - Ed arranges for part of his income to be paid directly to an offshore trust in Panama so it will not be taxed through the British system. The money sits offshore for years, being managed by an investment manager and until the time Paul is ready to start university. At that point, Ed transfers all ownership of the offshore trust to Paul, whom as a student has no income thus is not subject to any income tax at all. Paul uses the money from his offshore trust to pay his university school fees and all other living expenses for the entire period he is in medical school - that is money that Ed is going to have to spend anyway, but making these arrangements, he has effectively avoided income tax for that pot of money which is a sizable saving.
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| Rich people dodge taxes all the time. |
These schemes however, are expensive to arrange and whether or not it is worth pursuing depends entirely on your income. To set up one of these tax avoidance schemes, you need to engage the services of a team of fiduciary experts, tax advisers, lawyers, administrators, investment managers and other specialists. Let's put a figure on it: say it costs £50,000 a year to run such a scheme. Would a teacher like Carmen want to spend £50,000 a year to avoid paying £7,200 in taxes? No, it doesn't make sense, especially when she earns less than £50,000 a year. But would Ed want to spend £50,000 a year to avoid paying £71,700 in taxes? Oh yes. Now you're talking. Would a super rich actor like Jim Car spend £50,000 a year to avoid paying several millions in taxes? Of course he would. You need to do the maths to figure out whether it is worth their while trying to avoid income tax and the decision is not based on morals, but plain old statistics. You can't argue with the numbers. So how much income tax a very rich person like Ed or Jim Car really pays, well you never really know and they'll never tell you but it's probably a lot less than you think.
So there you go, that's an introduction on how the tax system in the UK works. Before you mention it, yes there is also national insurance (also known as social security) contributions in the UK, but the amount of national insurance contribution we pay is tiny compared to the amount of income tax most of us pay, that's why I am leaving it out of the equation and focused on just income tax. If you have any questions, please let me know. Many thanks for reading.
This is a myth that the Singapore government has helped to perpetuate about the horrors of living in the West. Now that Trump is in office, Singaporeans must feel ever more smug that all they have heard about how bad life is out of the island is absolutely true.
ReplyDeleteDo your research and think. Don't believe everything you hear or read.
I am going to do a post on Trump's America soon. I have so many feelings about the issue, I just have to put it into a post.
DeleteCan you do an article about corporate taxes too?
ReplyDeleteI could but I doubt the demand for it I'm afraid. I'll do something on Trump instead.
DeleteIf i remember correctly you mentioned in one of your earlier posts of comments how the UK tax system worked. But i guess the propaganda is strong and people need reminding that the facts aren't always what they think they are.
ReplyDeleteIt is this one: http://limpehft.blogspot.co.uk/2013/01/the-fallacy-about-tax-in-west.html
DeleteBut yeah I thought I'd focus on the maths this time to show that a waitress pays about 4%, a teacher about 16% and a banker about 36% income tax - it varies according to your earnings and that's how the system works. It doesn't take an expert in maths to apply the simple formula you know?
Wow really? Singaporeans believe western country pay more tax?
ReplyDeleteThis comment has been removed by the author.
ReplyDeleteGroan. You tried twice but got it wrong both times. What is it with you Singaporeans and grammar? You can either say:
Delete"Singaporeans believe that those in Western Countries pay more tax?"
or
"Singaporeans think that those in the West pay more tax?"
Yeah I know what you're trying to say, I am just aghast at how terrible your English is that you can't even express such a simple sentiment, to come up with one grammatically correct sentence in English. This makes me think, this is the kind of thing you need to learn for PSLE English and if you can't even handle this challenge, how are we even going to begin to talk about tax and politics with you. Argh, I despair. You can't even handle basic concepts like agreements of tenses or plural - Singaporeans (a group of people) THINK not thinks. She thinks, he thinks, they think. Good grief. Surely they taught you that in primary one.
sorry there was a bug in my computer
DeleteI would like to thank you for this excellent post about the UK tax system, though I must admit that I didn't read everything and I only read half the post as I am currently on the MRT. However, I studied the math calculations quite closely and this did give me a good insight on the tax system.
ReplyDeleteI think the main reason why people would criticize the West for having high taxes is because they do not understand that the CPF is, in fact, similar to taxes. The CPF takes up a significant portion of our monthly income, and we can't touch it unless we are buying a house or paying for our hospital bills and we can't withdraw it till the 60s. Psychologically, the CPF is one way that the government did to tell the people to be responsible for their own lives. I did not live in the UK but lived in the US before. I worked for a while and paid taxes to the state. However, I did not know where the taxes went. To Iraq? The roads around my area were still bumpy and federally run departments were shutting down as the federal government had no money. In Singapore, the CPF provides more transparency and accountability as it allows the people to use the money that they had worked hard to earn, and also stops people from misusing it with the withdrawal limits and the top ups.
In fact, even Americans do not know anything about the social welfare systems in Europe or in the UK. Those who are influenced by the GOP believe that the taxes in Europe are high and they are supporting a corrupt system that provides socialist healthcare if they were to adopt the European system.
And I suggest also for you not to be so harsh on Neon. I read his other posts and it seems to me that he is not someone who knows as much as us. Not everyone is as lucky to have such extensive education as us, whether it is financially or cognitively.