Sarah Coles, senior personal finance analyst, Hargreaves Lansdown highlights where our tax liabilities will go up in 2023, but also reminds us of the ways we can cut tax obligations legitimately
“If 2022 hasn’t cured you of your cheerful optimism, 2023 will,” says Sarah Coles, senior personal finance analyst, Hargreaves Lansdown.
“Weighed down by a year of rate rises and double-digit inflation, leaving us nursing an £800 hit to our disposable income, we wade into a year of horrible tax rises estimated to cost a typical middle-income household £700 more. There are eight painful ways that we could end up paying more tax, so it’s worth taking steps to ensure we don’t end up paying more than our fair share,” she says.
The lion’s share of the rise will come from the freeze in income tax thresholds, but for investors, property owners and business owners, the tax attacks will come from all sides. It means we need to understand where the tax pressure will come from, and how to protect ourselves.
Sarah Coles, Hargreaves Lansdown
In the seven months to November, the amount of tax we paid was up almost 10% according to Coles, compared to a year earlier, with particular surges in stamp duty, inheritance tax, income tax and National Insurance.
“Unfortunately, this is just the beginning: and in 2023, we can expect taxes to soar again,” says Coles.
For most people, she says, the lion’s share of the rise will come from the freeze in income tax thresholds, but for investors, property owners and business owners, the tax attacks will come from all sides. It means we need to understand where the tax pressure will come from, and how to protect ourselves.
By April 2026, the freezes will cut average household incomes by £1,250. By this stage, two-thirds of adults will pay income tax and 14% will pay a higher rate tax – over double the proportion in April 2009/2010 (IFS).
At the same time, because wage rises aren’t keeping pace with inflation, it means more tax coming out of a pay packet that’s worth less in real terms to start with.
Here Coles outlines where the taxes are coming from:
- More tax on pay: frozen income tax and National Insurance thresholds mean you’re likely to pay more tax on salary
“The personal allowance – how much you can earn before paying tax – has been frozen at £12,570, and the higher rate threshold – the point at which you start paying 40%, has stuck at £50,270 since April 2021. As incomes rise, employers are under pressure to raise salaries, so their staff can afford to live. Salaries rising automatically increases the amount of tax we pay, but the frozen thresholds also mean that the more wages rise, the more people will cross the frozen thresholds to pay a higher rate of tax.
With wages rising an average of 6.1% over the past 12 months, it means an awful lot of extra tax. By April 2026, the freezes will cut average household incomes by £1,250. By this stage, two-thirds of adults will pay income tax and 14% will pay a higher rate tax – over double the proportion in April 2009/2010 (IFS). At the same time, because wage rises aren’t keeping pace with inflation, it means more tax coming out of a pay packet that’s worth less in real terms to start with.
- … especially those on higher incomes
The £100,000 level at which the personal allowance starts to be withdrawn has remained frozen. Meanwhile, the additional rate threshold hasn’t moved from £150,000 since it was introduced in 2010, which already meant more people moving into the tax bracket through wage inflation.
However, from April it will fall to £125,140. It means anyone earning between the old threshold and the new one will lose an average of £621 a year and those earning over £150,000 will lose an average of £1,256. It’s expected to make the taxman an extra £420 million in the tax year starting in April.
It’s not just the tax on income either – it increases the rate payable on everything from dividends to capital gains – and reduces the personal savings allowance to nothing. Those on higher wages tend to have more wiggle room in their budgets, but rising prices have created headaches for top earners. Those with big mortgages will feel particular pain from higher mortgage rates too, so this additional tax blow is an unwelcome extra burden.
Business owners who pay themselves with dividends out of profits will take a hit at a time where they’re facing threats to their businesses from all angles – from runaway energy bills to rising prices and wage bills.
- More tax on profits
The dividend allowance falls in April from £2,000 to £1,000 – and will halve again the following April. To add insult to injury, they’ll also be taxed at the higher rates introduced last April – at 8.75% for basic rate taxpayers, 33.75% for higher rate taxpayers and 39.35% for additional rate taxpayers. Business owners who pay themselves with dividends out of profits will take a hit at a time where they’re facing threats to their businesses from all angles – from runaway energy bills to rising prices and wage bills.
- More tax on investments
In addition to the hit on dividends held outside of tax wrappers and exceeding the new smaller allowance, investors face a capital gains tax blow too, with the annual allowance slashed from £12,300 to £6,000 – before being halved to £3,000 the following April. Having invested diligently for the long term to build their financial resilience, it’s going to feel particularly unfair to be trapped by this allowance-cutting pincer movement.
- More council tax: bills will rise up to 5%.
Council tax will rise again in April. Councils have the freedom to raise tax by 3% – plus another 2% for social care – without holding a referendum. The enormous rise in the cost of social care, and the additional cost of National Insurance on council wage bills, is going to put them under real pressure, so many of them are likely to raise council tax as much as they possibly can. It means band D council tax could rise from an average of £1,966 to as much as £2,064.
- More tax on spending: inflation could mean paying more VAT
Higher prices don’t always automatically feed through into us paying more in VAT, because the fact that energy is taxed at a lower rate, and is swallowing a larger proportion of our incomes, will leave us with less to spend on things taxed at a higher level. However, with higher levels of tax on everything from petrol to household goods, we’ll still pay more in VAT. In the seven months to November, VAT hit a horrible £107.6 billion.
- More tax on property: property investors could pay more tax thanks to the slashing of the capital gains tax allowance.
For property investors, rising house prices raise the question of capital gains tax. House prices were up 12.6% in the year to October, which means higher CGT bills for second property investors who sell up. Slashing the CGT threshold is a particular challenge for buy-to-let investors, who can’t benefit from tax wrappers, or from realising their gains year by year, to take advantage of allowances. They could be faced with a hefty bill in just one hit, which may discourage them from selling. With house prices already facing a significant correction, if even more potential sellers hang on, fresh paralysis could add further uncertainty to a highly sensitive market.
- More inheritance tax: much higher house prices and frozen inheritance tax thresholds could mean more IHT
The inheritance tax nil rate band will remain at £325,000 and the residence nil rate band at £175,000 in the next tax year. Meanwhile, the IHT annual tax gift allowance is spending its fourth decade at £3,000. Given that average house prices were up £33,000 in the year to October to an average of £296,000, it means more estates will have more inheritance tax to pay.
Inheritance Tax (IHT) used to be seen as a wealthy person’s tax, but a mix of booming house prices and threshold freezes mean this is no longer the case. Inheritance tax (IHT) receipts received by HMRC during the financial year 2021/222 were at an all-time high of £6.1 billion, with estates over this level facing eye watering 40% tax bills.
5 ways to cut tax
- ISAs
The government offers the chance to squirrel away £20,000 in this tax year – free of tax.
If you’re saving to buy a first property, are aged 18-39, and have at least a year until you expect to buy, you should consider a LISA, because, in addition to tax-free growth, you get a 25% bonus on contributions. You can save or invest £4,000 this tax year.
Don’t forget Junior ISAs too. In the current tax year, you can save or invest £9,000 in a JISA for any qualifying child, and all interest, dividends or capital gains are tax-free.
- Pensions
Contributions to pensions attract tax relief at your highest marginal rate, and the first 25% taken from the pension is usually tax-free. There’s tax relief on pensions even for non-taxpayers – on the first £3,600 a year. It means you can contribute tax-efficiently to a pension on behalf of a child.
- Salary sacrifice
In some cases, the government will let you give up a portion of your salary, and spend it on certain things free of tax (and in some cases National Insurance). This includes pensions, childcare vouchers, bike-to-work schemes, and technology schemes. This won’t boost your take-home pay, but will cut your tax bill.
- Spouse exemptions
Assets that produce an income can be passed between spouses without triggering a tax bill. They can therefore be shared between a couple, so that both take advantage of their allowances. The balance can be held by the spouse paying the lower rate of tax, to reduce the tax payable.
- Marriage allowance
If one spouse is a non-tax payer, and the other is a basic rate taxpayer, the marriage allowance lets the non-taxpayer give £1,260 of their personal allowance to their spouse in the current tax year.”