Advanced Taxation (UK) · Income tax: the comprehensive computation of taxable income and the income tax liability

Income Tax Planning and Marginal Rates in ATX

Updated 11 October 2026 · Fact-checked

Tax planning in ATX means using the income tax computation to find the tax cost of the next £1 of income, then advising on how to reduce it. Work out the marginal rate, test the alternatives such as salary, dividends or pension contributions, compare the net cash, and note the effect on NIC and CGT.

Understand Tax Planning and Comprehensive Income Tax Scenarios

A planning question asks you to find the cheapest way to get value to a client. The tool is the income tax computation. You do not need a new technique. You rerun the computation with a change and compare the results.

The key idea is the marginal rate. This is the tax paid on the next £1 of income. It is often not the headline rate. The best-known case is the personal allowance (PA) taper. The PA is £12,570. It falls by £1 for every £2 that adjusted net income is above £100,000. It reaches nil when adjusted net income is £125,140. In that band, each extra £1 of salary is taxed at 40%. It also costs 50p of PA, and that 50p is taxed at 40%. The effective rate is 40% + 20% = 60%. Above £125,140 the rate falls back to 45%.

Dividends are taxed after non-savings and savings income. In the higher rate band the rate is 33.75%. If the PA is also being lost, the effective rate is 33.75% × 1.5 = 50.625%. The dividend nil rate band is £500. It still uses up band space, so it does not move the rates that apply to other income.

Planning also works by shrinking the income that is taxed at high rates. A gross pension contribution or Gift Aid donation extends the basic rate band by the gross amount. It also reduces adjusted net income. For someone just over £100,000, it can restore the PA and so save tax at an effective 60%. The extended band also helps with CGT. Gains sit on top of taxable income. Basic rate band left unused is taxed at 18% and the rest at 24%. Business asset disposal relief gains are taxed at 14%, up to the lifetime limit of £1,000,000.

Never advise on income tax alone. Salary is deductible for the company but attracts NIC. Dividends are paid from taxed profits but have no NIC. Show the numbers, then give a clear recommendation and name the assumptions.

Key rules to remember

Personal allowance taper: PA = £12,570 − ½ × (adjusted net income − £100,000), minimum nil; PA is nil when adjusted net income reaches £125,140. Use adjusted net income, not taxable income.
Marginal rate in the taper band (non-savings income): 40% × 1.5 = 60%; Applies to income between £100,000 and £125,140 for someone taxed at higher rate. It is 45% above £125,140.
Marginal rate on dividends in the taper band: 33.75% × 1.5 = 50.625%; Applies where the dividend is taxed at 33.75% and PA is still being lost.
Income tax rate bands 2025/26: Basic £1–£37,700 at 20% (dividends 8.75%); higher to £125,140 at 40% (33.75%); additional above that at 45% (39.35%); Given in the tax tables. The dividend nil rate band is £500.
Effect of a gross pension contribution or Gift Aid: Basic rate band extended by the gross payment; adjusted net income reduced by the gross payment; Relief at source: the net payment is 80% of the gross. The extra relief is claimed through the return.
CGT rates: 18% in unused basic rate band, 24% above; BADR 14%; annual exempt amount £3,000; Taxable income is used first. Gains fill the basic rate band left over.
Cap on income tax reliefs: Higher of £50,000 or 25% of income; Check this when advising on reliefs other than pension contributions and Gift Aid.

How to solve Tax Planning and Comprehensive Income Tax Scenarios questions

Use the same method for any planning question. It keeps your answer structured and makes it easy for the marker to award marks.

1Identify the client and their objective. Is it to extract cash, reduce tax, fund a purchase, or keep within a threshold?
2Draft the base computation. List the income by type, adjusted net income and the PA after any taper.
3Find the marginal rate for the next £1 by checking which band the income falls in. Remember the 60% band.
4Test each alternative separately: salary, dividend, pension contribution, Gift Aid or deferral. Compute the tax and the net cash.
5Add the other taxes. Include NIC, corporation tax, and the CGT rate effect if the band is extended or if a disposal is planned.
6Compare the net after-tax result. State the saving in pounds and say which option is better.
7Give a recommendation. Note assumptions, such as sufficient earnings and unused annual allowance, and mention non-tax factors such as cash flow.
8Show the professional skills: clear layout, reasoned conclusion and sensible practical caveats.

Quickest way: Marginal rate shortcut

When to use it: Use it when the question asks for the effect of an extra or lower amount of income, and you do not need a full recomputation.

Check adjusted net income against £100,000 and £125,140.
Between these, use 60% for non-savings income and 50.625% for dividends taxed at 33.75%.
For a pension or Gift Aid payment, work with the gross figure. In the taper band, the saving on that part is up to 60% of gross.
If the payment takes income below £100,000, the amount above £100,000 is relieved at 60%. Anything below is relieved at the normal 40% for the part inside the higher rate band.
Check the answer against a full computation if there is time, and say the shortcut ignores NIC.

Common mistakes in Tax Planning and Comprehensive Income Tax Scenarios

Applying the 60% rate to taxable income instead of adjusted net income.
Students look at the taxable income line, which is after the PA.
Fix: Test the £100,000 to £125,140 range against adjusted net income, which is income before the PA.
Forgetting that the 60% rate applies to dividends as 50.625%, not 60%.
The 60% figure is memorised as a single number for the band.
Fix: The rate depends on income type. Use rate × 1.5 for the tax on the income plus the tax on the lost PA.
Using the net pension payment to reduce adjusted net income or extend the band.
Relief at source confuses students about what the amount is.
Fix: Gross the net payment up by dividing by 0.8. Use the gross amount for both the band extension and the adjusted net income.
Comparing salary and dividends without NIC or corporation tax.
Students stay within the income tax chapter and compare the rates only.
Fix: Compare net cash from the same pre-tax profit. Include corporation tax saved on salary and employer and employee NIC, using the figures given.
Leaving out the CGT effect of an extended basic rate band.
Income tax and CGT are studied as separate topics.
Fix: If a gain is mentioned, say that the gross payment frees basic rate band, so some of the gain moves from 24% to 18%.
Ending with calculations only and no recommendation.
Students run out of time or treat it as a computation.
Fix: Finish with one clear sentence stating the better option, the saving and the main assumption.

Worked examples

Example 1

Anna has employment income of £110,000 in 2025/26 and no other income. She is considering a personal pension contribution of £8,000 paid net (relief at source). She has sufficient relevant earnings and unused annual allowance. Calculate her income tax before and after the contribution, and state the net cost of the contribution after tax relief.

Show the solution

Before the contribution, adjusted net income is £110,000. The PA is reduced by ½ × £10,000 = £5,000, so the PA is £7,570.
Taxable income = £110,000 − £7,570 = £102,430. Tax: £37,700 × 20% = £7,540. The remainder is £102,430 − £37,700 = £64,730 × 40% = £25,892. Total tax is £33,432.
The gross contribution is £8,000 ÷ 0.8 = £10,000. Adjusted net income falls to £100,000, so the PA is restored to £12,570.
Taxable income = £100,000 − £12,570 = £87,430. The basic rate band is extended to £37,700 + £10,000 = £47,700.
Tax: £47,700 × 20% = £9,540. The remainder is £87,430 − £47,700 = £39,730 × 40% = £15,892. Total tax is £25,432.
Tax saving = £33,432 − £25,432 = £8,000. Anna pays £8,000 net and her tax falls by £8,000, so the contribution costs her nothing after relief.
The saving is £10,000 × 60% = £6,000 on the income removed from the taper band, plus £10,000 × 20% = £2,000 from the extended basic rate band. These add up to the £8,000 saving.

Answer: Income tax before is £33,432 and after is £25,432. The £8,000 net contribution (£10,000 gross into the pension) saves £8,000 of tax, so the net cost is nil.

Example 2

Ben is the sole shareholder and director of Ben Ltd. He has salary income of £60,000 from the company and no other income. The company has £20,000 of profit before any extraction or corporation tax, and it pays tax at the main rate of 25%. Ben wants to take this out of the company either as a dividend of the post-tax profit, or as an extra salary of £20,000. Ignoring NIC, compare Ben's net cash in each case for 2025/26.

Show the solution

Dividend route: corporation tax = £20,000 × 25% = £5,000. Dividend = £15,000.
Ben's non-dividend income is £60,000 − £12,570 = £47,430. This is above the £37,700 basic rate band, so the whole dividend is taxed at 33.75%.
The first £500 of dividends is covered by the dividend nil rate band. Tax = (£15,000 − £500) × 33.75% = £14,500 × 33.75% = £4,893.75, which rounds to £4,894.
Net cash to Ben = £15,000 − £4,894 = £10,106.
Salary route: the salary is a deductible expense, so there is no corporation tax. Ben's total income is £80,000, so adjusted net income is below £100,000 and the PA is unaffected.
Income tax on the extra salary at 40% = £20,000 × 40% = £8,000. Net cash to Ben before NIC = £12,000.
On income tax alone, salary leaves £1,894 more (£12,000 − £10,106). This ignores employer NIC and employee NIC, which apply to salary but not to dividends, so the real comparison needs the NIC rates given in the exam.

Answer: Before NIC, salary leaves Ben £12,000 and a dividend leaves him £10,106. The salary route wins on these figures, but NIC on salary is a cost that dividends avoid, so you must include it before deciding.

Exam tips

Look for income close to £100,000 in the scenario. The examiner often sets figures to fall in the 60% band, so check adjusted net income first.
Show every calculation and workings clearly. Marks are given for method even if one figure is wrong.
Always state the assumptions: sufficient earnings, unused annual allowance, tax rates and allowances for 2025/26 continuing.
Link to other taxes. If a gain, a company, or NIC is mentioned, the answer will need it.
Finish with a short recommendation. These count towards the professional skills marks.

Practice questions from Income tax: the comprehensive computation of taxable income and the income tax liability

Tax Planning and Comprehensive Income Tax Scenarios in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Tax Planning and Comprehensive Income Tax Scenarios: frequently asked questions

Why is the effective marginal rate between £100,000 and £125,140 equal to 60%?

Each extra £1 of income is taxed at 40%. It also reduces the personal allowance by 50p, and that 50p becomes taxable at 40%, which adds 20p. So the cost of the £1 is 40p + 20p = 60p. The PA is nil at £125,140, so the extra rate stops there.

Is the effective rate the same for dividends in that band?

No. The higher dividend rate is 33.75%. The lost PA adds 50p of taxable income per £1, so the effective rate is 33.75% × 1.5 = 50.625%. Check whether the income type is salary, savings or dividends before you quote a rate.

How do I advise on salary versus dividends in ATX?

Compare the net cash to the shareholder from the same pre-tax company profit. Include corporation tax saved on salary, income tax, and employer and employee NIC. Dividends are paid from taxed profits but have no NIC, so the answer depends on the figures. State the assumptions.

Can a pension contribution help with CGT as well as income tax?

Yes. A gross pension contribution extends the basic rate band, and gains are taxed on top of taxable income. More of the gain may then be taxed at 18% rather than 24%. Business asset disposal relief gains are taxed at 14%, up to the lifetime limit.