What is income tax?

Income tax is a tax payable by all individuals on their income, regardless of their age. This includes earnings from employment, profits from self-employment, property income, pension income and interest.

The government raises more in income tax than it does in any other tax. For 2024/25, HMRC estimated the total income tax liability to be £303bn - 35% of the total amount of tax payable for that year.

Most income tax is paid on earnings and is collected through pay as you earn. Income tax is also paid through self assessment. 

How is income tax calculated?

Income tax is payable if the person’s total income for the tax year exceeds their tax-free personal allowance - currently £12,570.

The personal allowance is reduced where income exceeds £100,000 and is lost entirely where income exceeds £125,140.

Income above the personal allowance is taxed by reference to which tax band it falls into. Different rate bands apply where the person lives in Scotland. For a person living in England, the rates of tax on earnings above the personal allowance are 20%, 40% and 45%.

What is a marginal rate of income tax?

The marginal rate of income tax is the percentage of tax paid on a particular slice of income. This may be higher than the headline rates of 20%, 40% and 45%. For example, the marginal rate of income tax on earnings between £100,000 and £125,140 is 60%, due to the withdrawal of the personal allowance.

Other taxes may be payable on or by reference to the same income. If national insurance contributions are included, the marginal rate of tax on income from employment and self-employment in this band is 62%.

What is fiscal drag?

If the personal allowance and tax thresholds are not increased in line with inflation and earnings growth, more people must pay income tax, and more will pay at the higher rates. This is referred to as fiscal drag.

The personal allowance is frozen at the amount for 2021 (£12,570) – and is not expected to increase before April 2028. The Office for Budget Responsibility estimates that it would now be £15,480 had it increased in line with inflation, and that there will be around 4.2 million more taxpayers by 2028/29 due to fiscal drag.

The effects are fiscal drag are explored in more detail in a separate article.

Impacts of changes to rates

Due to the amount that the government raises through income tax, increases in the rates of tax could generate a significant amount of additional revenue for the Exchequer. Based on figures published by HMRC, increasing the basic rate of income from 20% to 21% with effect from 6 April 2026 would raise additional funds of approximately £6.9bn per year for 2026/27.