Guide to UK taxation
This Guide to UK Taxation gives a slightly more in detail explanation to the different taxes on income and expenditures that are charged in the UK and how they are collected.
In the United Kingdom, Income tax forms the bulk of revenues collected by the government. The second largest source of government revenue is National Insurance Contributions. The third largest source of government revenues is value added tax (VAT), and the fourth-largest is corporation tax.
UK source income is generally subject to UK taxation no matter the citizenship, the place of residence of the individual or the place of registration of the company.
The UK tax year
The tax year in the UK, which applies to income tax and other personal taxes, runs from 6 April in one year to 5 April the next (for income tax purposes). The tax year is sometimes also called the Fiscal Year. The Financial Year, used mainly for corporation tax purposes, runs from 1 April to 31 March.
Income tax forms the single largest source of revenues collected by the government. Each person has an income tax personal allowance, and income up to this amount in each tax year is free of tax for everyone. Above this amount there are a number of tax bands which are each taxed at a different rate. The taxpayer’s income is assessed for tax according to a set order, with income from employment using up the personal allowance and being taxed first.
Inheritance tax is levied on “transfers of value”, meaning:
- the estates of deceased persons
- gifts made within seven years of death (known as Potentially Exempt Transfers or “PETs”)
- “Lifetime chargeable transfers”, meaning transfers into certain types of trust
The first slice of cumulative transfers of value (known as the “nil rate band”) is free of tax. Over this threshold the rate is 40% on death. Any inheritance tax must be paid by the executors or administrators of the estate before probate is granted. Gifts made more than seven years prior to death are not taxed; if they are made between three and seven years before death a diminishing inheritance tax rate applies. There are some important exceptions to this treatment including the “reservation of benefit rule”, which says that a gift is not a gift for inheritance tax purposed if the giver benefits from the asset in any way after the gift (for example, by gifting a house but continuing to live in it).
Council tax is the system of local taxation used in England, Scotland and Wales to part fund the services provided by local government in each country. The basis for the tax is residential property, with discounts for single people.
Corporation tax is tax levied in the United Kingdom on the profits made by companies and on the profits of permanent establishments of non-UK resident companies and associations that trade in the EU. Corporation tax forms the fourth-largest source of government revenue (after income, NIC, and VAT).
Business rates is the commonly used name of non-domestic rates, a United Kingdom rate or tax charged to occupiers of non-domestic property. Business rates form party of the funding for local government, and are collected by them, but rather than receipts being retained directly they are pooled centrally and then redistributed.
Business and personal taxes
Some taxes are, depending on the circumstances, paid by both individuals and companies and government.
The second largest source of government revenues is National Insurance contributions (NIC). NIC is payable by employees, employers and the self-employed. Employees are taxed according to a classification based on their employment type and income. Class 1 NIC is charged at rates depending on income thresholds. In addition, employers pay National Insurance on employees earnings over the lower earnings threshold, with no upper threshold, so total earnings are taxed at a single rate per employee. Employers are additionally liable to Class 1A NIC on most benefits-in-kind provided to employees which are subject to income tax in the hands of the employee, and to Class 1B NIC on the value of the tax and on certain benefits paid via a “PAYE Settlement Agreement”. There are separate arrangements for self-employed persons (who are normally liable to Class 2 flat rate NIC and Class 4 earnings-related NIC), married women, and voluntary sector workers.
Capital gains are subject to tax at a given rate (for individuals) or at the applicable marginal rate of corporation tax (for companies). The basic principle is the same for individuals and companies – the tax applies only on the disposal of a capital asset, and the amount of the gain is calculated as the difference between the disposal proceeds and the “base cost”, being the original purchase price plus allowable related expenditure.
Sales taxes and duties
The third largest source of government revenues is value added tax (VAT), charged at 20% on supplies of goods and services. It is therefore a tax on consumer expenditure. Certain goods and services are exempt from VAT, and others are subject to VAT at a lower rate of 5% (the reduced rate, such as domestic gas supplies) or 0% (“zero-rated”, such as most food and children’s clothing). Exemptions are intended to relieve the tax burden on essentials while placing the full tax on luxuries.
Excise duties are charged on, amongst other things, motor fuel, alcohol, tobacco, betting and vehicles.
Stamp duty is charged on the transfer of shares and certain securities at a rate of 0.5%. Modernised versions of stamp duty, stamp duty land tax and stamp duty reserve tax, are charged respectively on the transfer of real property and shares and securities, at rates of up to 4% and 0.5% respectively.
Motoring taxes include: fuel duty (which itself also attracts VAT), and vehicle excise duty. Other fees and charges include the London congestion charge, various statutory fees including that for the compulsory vehicle test and that for vehicle registration and in some areas on-street parking (as well as associated charges for violations).