Taxation and VAT
Tax is a financial contribution made to the government. It may be in the form of a reduction such as income tax, which is subtracted from your earnings, or deducted from the interest made on savings.
It can also be added to the cost of an item such as VATValue-added tax. A government tax added to the cost of most goods and services. As of 2015 the usual rate is 20%, while a reduced rate of 5% is charged on some goods and services, eg home energy. , which is added to the cost of most things bought or stamp duty, paid when you buy a house.
Income tax
Income tax is the tax people pay on the money they earn. Typically, the first portion of income isn’t taxed. This is called your personal allowance.
The rest of your salary above your allowance is called taxable income. This is the money your income tax is calculated on.
Up to a given value of your taxable income will be charged at a basic rate of tax (20%) and money over this will be subject to a higher rate of tax (40%).
Calculating income tax
Geraint earns £75,000. We can calculate the amount of tax he has to pay and how much his income will actually be, given the following information:
- Personal allowance of £10,000
- Basic rate of 20% for actual income between £10,000 - £41,785, or in other words, the first £31,785 of his taxable income
- Higher rate of 40% for taxable income between £31,785- £150,000
1. Begin by subtracting £10,000 as this will not be taxed:
£75,000 - £10,000 = £65,000 of taxable income
2. The first £31,785 will be taxed at 20%.
£31,785 ÷ 100 × 20 = £6,357 tax.
3. Calculate how much is left to be taxed - this will be at a rate of 40%.
£65,000 - £31,785 = £33,215 to be taxed at 40%.
£33,215 ÷ 100 × 40 = £13,286 tax.
4. Add up both values of tax:
£6,357 + £13,286 = £19,643 total tax.
5. Subtract this from his earnings to find how much income he will receive after tax.
£75,000 - £19,643 = £55,357.
Question
Marcus has an annual salary of £22,500. He receives a personal allowance of £10,000. He pays a basic rate of 20% on taxable income between £0 and £31,000 and a higher rate of 40% on taxable income between £31,000 and £140,000. Calculate how much he is taxed and what his actual income is.
£10,000 = personal allowance.
£22,500 - £10,000 = £12,500 taxable income.
This is below £31,000 so he only has to pay 20% tax on the remaining balance.
£12,500 ÷ 100 × 20 = £2,500 tax.
£22,500 – £2,500 = £20,000 income after tax.
Value-added tax (VAT)
VAT is a tax added to most goods and services. As of September 2011, VAT is charged at 20%.
Calculating VAT
A car costing £5,500 is subject to 20% VAT. Work out the cost of the VAT and the total cost of the car.
1. Find 20% of the cost:
£5,500 ÷ 100 × 20 = £1,100.
2. Add this to the original cost:
£5,500 + £1,100 = £6,600.
Calculating the original cost
Petrol prices are subject to 20% VAT. If I paid £48.26 for a tank of petrol, how much of this was VAT?
Cost + VAT = price paid
100% + 20% = 120%
£48.26 = 120%.
Divide both sides by 120 to find the value of 1%.
0.4021666667 = 1%.
Now multiply by 20 to find the value of VAT added.
8.043333333 = 20%.
VAT = £8.04 (rounded to two decimal places as we are dealing with money).
