How Does Personal Taxation Work?

What Is Personal Taxation?

On my first day of work, my father said to me, "On a Monday, Tuesday, Wednesday and Thursday, you work to pay your taxes and bills. On a Friday, the money is yours!" I've always thought this was the greatest explanation of taxation I've ever heard! Ever since this advice, I have worked hard to ensure I keep more of my daily earnings.

Personal taxation is the process by which the UK government collects money from individuals to fund public services, such as the National Health Service (NHS), education, and infrastructure.

As you will quickly discover, tax is referred to by various names, including fees, levies, duties, fines, and charges. The government is very creative, but all the money goes into its big pot. Understanding how they work can help you save money, stay compliant, and plan.

This UK personal tax blog provides comprehensive information on topics such as income tax, National Insurance, VAT, property tax, and more. I have focused on the UK tax system, as I have a good understanding of it. However, many tax systems around the world are modelled on the UK system.

Capital Gains Tax is a complex tax that applies to gains rather than income. I have written a separate blog to address this topic due to its intricacies. It's essential to understand this tax, as a significant portion of wealth is generated through gains rather than traditional income.

1. Income Tax Explained

Income tax is payable on most types of income, including wages, self-employment profits, pensions, savings interest, and rental income.

The UK tax year runs from 6 April to 5 April each year.

2025/26 Income Tax Bands (England, Wales, and Northern Ireland)

Income Range Tax Rate Band

£0 – £12,570 0% Personal Allowance

£12,571 – £50,270 20% Basic Rate

£50,271 – £125,140 40% Higher Rate

Over £125,140 45% Additional Rate

Tip: If your income exceeds £100,000, your Personal Allowance decreases by £1 for every £2 you earn over that threshold.

Scotland uses slightly different tax bands and rates.

2. National Insurance Contributions (NICs)

National Insurance funds state benefits such as the State Pension, Maternity Allowance, and Jobseeker's Allowance.

How much you pay depends on whether you're employed or self-employed:

• Employees (Class 1) pay 8% on earnings between £12,570 and £50,270.

• Employers also contribute NI on wages above £9,100.

• Self-employed pay Class 2 (£3.45/week) and Class 4 (6%) on profits over £12,570.

Keeping your NI contributions up to date ensures you qualify for key benefits like the State Pension. (And in most countries, access to health services)

3. Tax-Free Allowances and Reliefs

Several allowances and reliefs can reduce your tax bill. You can earn up to these allowances before you pay tax:

• Personal Allowance: £12,570 tax-free income for most people.

• Savings Allowance: Up to £1,000 interest tax-free (basic rate taxpayers).

• Dividend Allowance: £500 tax-free dividends.

• Marriage Allowance: Transfer £1,260 of your Allowance to your spouse.

• Trading Allowance: £1,000 tax-free self-employed income.

• Property Allowance: £1,000 tax-free rental income.

These allowances can make a big difference, especially for small businesses, freelancers, and side hustlers.

4. Benefits and Tax Credits

While taxes fund public services, benefits provide support for individuals and families.

Some are means-tested (based on income), while others are universal.

Common UK benefits include:

• Universal Credit

• Child Benefit (note: the High-Income Child Benefit Charge applies to amounts over £50,000)

• Pension Credit

• Personal Independence Payment (PIP)

Some benefits are taxable, such as Jobseeker's Allowance, while others are not.

5. Property Taxes in the UK

Property ownership comes with additional taxes:

• Council Tax: Charged by local councils based on property value.

• Stamp Duty Land Tax (SDLT): Paid when buying a property above £250,000.

• Capital Gains Tax (CGT): Charged when you sell an investment or second property for profit.

• Inheritance Tax: Applies to estates worth over £325,000 (with additional allowances for property passed to children).

These can significantly impact landlords, investors, and homeowners, so planning is key.

6. Value Added Tax (VAT)

VAT is a consumption tax added to most goods and services.

• Standard rate: 20%

• Reduced rate: 5% (e.g. home energy)

• Zero-rate: 0% (e.g. most food and children's clothes)

If your business turnover exceeds £90,000, you must register for VAT.

VAT-registered businesses can reclaim VAT on most purchases, reducing their overall costs.

7. Other Common UK Taxes and Levies

In addition to the central taxes, you might also encounter:

• Fuel Duty on petrol and diesel.

• Alcohol & Tobacco Duties.

• Vehicle Excise Duty (road tax).

• Insurance Premium Tax.

• Environmental Levies (e.g. Climate Change Levy for businesses).

These taxes contribute to specific government funds and public projects.

Summary: Managing Your Taxes Wisely

Understanding how personal taxation works helps you:

• Stay compliant with HMRC (Tax Office)

• Avoid overpaying

• Claim all eligible allowances and reliefs

• Plan better for savings, pensions, and investments

Understanding taxes can be challenging, especially with employment, self-employment, or rental income. Maintaining accurate records and managing administrative tasks properly can significantly help.

Final Thoughts

Unless you live in Dubai or one of the other twenty income tax-free zones, you will pay tax. Tax removes money from your pocket and should always be considered and planned to avoid overpayment. The tax you pay reduces the money you have to live on. Most people focus on gross earnings, but ideally, you should consider the net amount after tax when evaluating risk and reward.

In Dubai, if you earned $100,000 per annum, you would pick up $ 8,333.33, whereas in the UK, your net pay would be $ 5,527.

Capital gains tax in Dubai is zero for individuals, so a gain of $100,000 would be free of tax. However, in the UK, you would pay circa $16500 in tax, assuming you had a salary of $25,000, leaving you with a net gain of $83,500.

Always consider your tax liabilities, as this reduces what you have available to spend.