2016/17 tax calculation for a tax payer who has employment, self employment and rental income

I am a graphic designer in full time employment on a salary of £35,000. I also have some self employed work which totals about £8,000 and rental income from a buy-to-let which is in joint names with my wife, for which we get £1,000 per month after costs. Can you give me an idea of how much my tax is likely to be for the 2016/17 tax year and how it is calculated?

 

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Answer, August 2016

Assuming your employment income has had tax deducted at source without any adjustments, we would expect that your employer will deduct £4,800 tax for the 2016/17 tax year (£35,000 income less the £11,000 personal allowance, x 20% basic tax rate).

This would leave no further tax to pay on this income. It is therefore the self employment income and your share of the rental income that is going to be subject to a further tax charge via the self-assessment tax return system.

In the 2016/17 tax year individuals can earn £11,000 before paying any income tax, this is known as the personal allowance.

The £32,000 of income between £11,000 and £43,000 (the basic rate band) is taxed at 20% and over £43,000 the higher rate of 40% is charged. There is an additional rate of 45% on income over £150,000 but that rate is not relevant here.

We will assume the self employed income of £8,000 is profit after allowable expenses. Combining your employment income with your self employed profits, your total income for the 2016/17 tax year is taken to £43,000, therefore the full £8,000 remains within the basic rate band and will attract income tax of 20% (£1,600).

Self employed profits also attract specific national insurance charges.

National insurance for the self employed is split into two distinct types – Class 2 and Class 4.

Class 4 is calculated at 9% of self employed profits made over £8,060 and 2% on further profits made over £43,000 for the 2016/17 tax year. In this instance, given total profit is less than £8,060 there will be no Class 4 national insurance payable.

Class 2 national insurance is charged at a flat rate of £2.80 per week where self employed profits are over £5,965. In this case (assuming you have been self employed for the full tax year) this will equate to a total national insurance charge of £145.60 (£2.80 x 52) for the 2016/17 tax year.

This leaves your share of rental income to consider.

As your rental property is in joint names with your wife, the default position will be that the profits are allocated equally between you for tax purposes.

A 50% split of the £1,000 per month after costs will leave you with a further £6,000 of taxable income, assuming the rental income was received for the entire tax year.

Because all of your basic rate band has now been utilised this £6,000 will be taxed at the higher rate of 40% – giving rise to a tax charge of £2,400.

There is no national insurance to pay on your rental income.

Therefore, the total tax and national insurance payable through your tax return would be £4,146 – calculated as follows:

 

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In the above instance there are a number of tax-strategies you could use in order to reduce the overall level of tax payable.

If your wife has more personal allowance or basic rate band available there may be scope to transfer more than 50% of the rights to the income from the rental property to her (subject to the appropriate documentation being prepared). This would have the effect of moving some income out of the higher rate (40%) band and into lower rates of tax, which would save tax overall as a couple.

A further way to save tax would be possible if you had excess cash to pay into a pension scheme. This would have the effect of increasing the basic rate band as you would gain further tax relief on the contributions.

If you don’t need to use all of your self employed profits you might want to consider whether a limited company is more suitable, you can read our article on the topic of sole trader vs limited company.

These strategies should be discussed with a professional advisor before taking any action.