Ah tax. An inevitable topic for my What the F@%K series.
For many people, tax = headache. Many of us young adults have no idea what it means, where it goes and whether we should be paying for it. And for many others it consists of a lot of numbers and a lot of ‘I don’t remember spending those £200…’ Tax mainly consists of groans, sighs and ‘can’t believe how much money the government’s getting’ thoughts. It’s a generally hated topic which brings a look of disgust on our faces every time someone mentions it.
But there is a good reason for this: we hate tax because we don’t understand it. We don’t understand how it’s done and why it’s done, so instead we complain.
To slightly alleviate the burden of complaints in the world I thought it would be a good idea to explore the topic of tax and try to explain it to the best of my research ability. Tax is a tricky subject and I am no expert, so keep in mind that this is just an introduction. And since each country’s tax is a little different, I’ve decided to base this one on the UK. If there is enough demand, a US/any other country one will also be produced; the more tax education the better.
Vamosss to the tax!
The origins of tax
Let’s go back a bit.
The first tax to ever come into place started in the eras of the Egyptians and Romans, and it was pretty simple: the more money someone had, the more they paid. The years went on and as most of us remember studying, the middle ages consisted of diseases, poverty, and peasants paying grain to their lord in the castle (aka tax).
Fast forward to 1799, when William Pitt the Younger introduced the first ever income tax recorded in the UK. The tax allowed Britain to fund the French Revolutionary War and started at 2 old pence to the pound for people earning more than £60.
So the actual modern tax system as we know it now wasn’t created until the end of the Second World War, when the government started spending more because they liked the taste of more money from taxes (bad money management if you ask me).
As you can see, tax is not at all a new concept. Since the Egyptians, people have been paying the government or person in charge a certain amount of their income in order to fund wars, infrastructure, maintenance, etc. For most of the past the income tax was very low, with only one in five workers paying tax at the end of the second world war!
What is tax nowadays?
Nowadays, 25 million Britons pay tax, whether it’s taken from an income, capital gains or even inheritance. By taking a portion of your money, the British government can afford to spend on public transport, sanitation, legal systems, public insurance, and many other expenditures. Taxes are what gives us free healthcare and free education (yay!).
So you see, taxes are not all bad. For just a percentage of our money, the government takes care of us (whether through retirement, healthcare, and other benefits) and we get to indirectly help other people in society. It just starts to get ugly when corruption comes in and you discover your hard earned money is being used to buy yachts, fancy dinners and huge mansions (debate topic: The Queen?)
This percentage of money you give to the government varies depending on how much you earn, if you’re married and whether you have any disabilities. You are also taxed on different activities of your life: what your job earns, what you spend, what you inherit.
There are quite a few types of tax, but I’m just going to mention the 5 main ones here::
Dating back to the Romans, this is the oldest tax of all. It’s pretty simple: you earn money, and a portion of that money goes to the HMRC (the gov’). If you work in a company, the tax money is deducted before you get your paycheck through a scheme called PAYE (Pay As You Earn). If you’re self-employed, you have to fill out a Self-Assessment (that’s us side-hustlers) at the end of the tax year: 5th April.
As mentioned before, tax rates depend on how much you earn. You also get a personal allowance of £11,500 (year 2017/2018) before paying any tax. Here’s a snazzy table so you can visualise it better:
So the first £11,500 you earn are free, the next 33,500 (45,000-11,500) are taxed at a rate of 20%, and so forth.
National Insurance Contributions
These contributions are what give us free healthcare (hehe Americans) and give us certain benefits once we retire, i.e. a state pension. Once again, these contributions are taken out directly from the PAYE scheme if you work for an employer. If self-employed, you have to pay these yourself with your Self Assessment. You stop paying once you reach state pension age (the age keeps changing but if you’re in your twenties now your state pension age is likely to be at 68 – here’s a tool to work it out)
Another snazzy table:
Capital Gains tax
You’ll only encounter this one if you plan on buying and selling possessions or investments, and you’re only taxed on the gains you make. If for example you buy a painting for £5,000 and then sell it for £25,000, you will be taxed on the £20,000 you made on the sale.
Once again, your tax rate depends on how much you earn. If you go back to the first table you’ll see they’re called Basic Rate, Higher Rate and Additional Rate.
If you’re investing and using the magic of compound interest, you’ll know that there are two ways to make money. The first is when buying shares and then selling at a higher price, and the second is through dividends paid out by the company. Dividend tax is basically what the name says: a tax on your dividends. You also get a Personal Allowance on the first £5,000 you earn.
After that, this is what you pay:
Ah, the famous inheritance tax, also known as the most hated tax in the nation. Quite understandable if you think about it: not only do you have to deal with the death of a loved one, but also with complications of giving a chunk of the inheritance to the government. And it’s a pretty large chunk.
If the estate (property, money and possessions) you inherit amounts to less than £325,000, you’re safe from paying tax (this increases to £650,000 if married or in a civil partnership). After that, it’s 40%. Stingy.
Tips and tricks to pay as little inheritance tax as possible are ALL over the web. Strategies such as giving some away to charity, borrowing money against your home or even getting married will help you reduce the amount of tax paid. Here is a pretty well summarized guide.
There are a few other taxes which I haven’t included such as stamp duty (residential properties you purchase), excise duty (tobacco, alcohol, etc) and council tax (according to the property value by local authority). There is one thing which isn’t taxed… yet: Gambling. See my cheeky Money Experiment on Matched Betting
And now… to the biggest question of them all…
I am a student, should I pay tax/ how do I pay tax?
I’ve had this questions since forever and it was NOT easy to find the answer (thanks again secondary education). The answer is pretty basic: you only pay tax if you’re working. You won’t pay tax on student loans or grants, but you will pay income tax and National Insurance contributions through your employer. Of course, remember that you have to be earning over £11,500 (your personal allowance) before paying tax.
What if I’m self employed? If you’ve got a cool side hustle, you will have to learn how to fill out a Self-Assessment on the 5th of April. The next year 2018 will be my first time filling out one and I’m not going to lie I’m slightly excited/nervous (proper adulting folks!). Just remember to keep track of your income and expenses so you know which numbers to slot in…
What if I’m an international student? You will still be paying tax, and it’ll be the UK band rate you’re paying, not the one in your home country. However, your country might have double tax agreements with the UK. Check them out here
The Government page does a good job of explaining different tax aspects as a student: See Student jobs: Paying Tax
Boom! Finito! I’ve you’ve gone through the entire article and ended up here I admire your diligence. And I also hope you understand taxes a bit better.
I actually noticed something quite interesting whilst doing tax research: every time I understood something, I wanted to learn more. The more I read about tax, the more I wanted to explore it (financial nerd). Part of me does think that it’s a bit cool how some of my hard earned money will be used to help society. Maybe those £50 I’m giving the HMRC will be used to buy more textbooks for a school, or a more comfortable pillow for someone in hospital. Tax is really what helps us care for each other, and I find that touching.
And it still blows my mind that something which is constantly surrounding us in our daily lives is so ‘undertalked’. How come such few people know about tax? How come no one helps young adults understand the importance of their role in society? Many questions, and very few answers, as usual.
If you felt this WTF article helped you understand tax better, feel free to suggest any other confusing topics on the finance world and I’ll be down to researching and explaining.
And here are some great websites to learn more about taxes in the UK: