You may have seen reference to an effective 60% rate of income tax applying after April 2010. As we've been asked numerous times about this here's a brief outline as to how it arises:

There are some big changes to the personal allowance that have come into effect from April 2010. There is now a new limit designed to restrict the amount of the personal allowance available.

From 2010-11, where an individuals adjusted net income is above the income limit of £100,000, the amount of the allowance will be reduced by £1 for every £2 above the income limit.

When your income exceeds the £100,000 limit the personal allowance will be reduced by £1 for every £2 over the limit (in other words, by half of the amount by which your income exceeds the limit).

This is serious blow to taxpayers with more than £100,000 income because the personal allowance would save you around £3,000 in tax.

Here are some examples showing how the new rules will apply. This is based on the rates and allowances for 2011/2012.

1. Jack has earnings of £50,000. He will qualify for the full personal allowance of £7,475 which will reduce his taxable income to £42,525.

2. Bill has earnings of £110,000. His earnings exceed the £100,000 limit by £10,000. Therefore his personal allowance would be reduced by £5,000. Therefore Bill will receive a personal allowance of £2,475.

3. Percy has earnings of £160,000. Like Bill, his earnings exceed the £100,000 limit. However, because he has exceeded the £100,000 limit by £60,000 this would reduce his personal allowance to zero.

Effective 60% tax rate

These changes to the personal allowance mean that once you reach £100,000 of income your personal allowance is restricted. Once you exceed £114,950 you won't get any personal allowance.

This means that where you have income within the range of £100,000 - £115,000 you could be faced with a 60% effective rate of tax.

This is calculated as follows:

Income of £100,000

If you have income of £100,000 you'll be taxed as:

Income £100,000

Personal allowance -£7,475

Taxable income £92,525

Basic rate tax £35,000 @ 20% = £7,000

Higher rate tax £57,525 @ 40% = £23,010

Total tax payable = £30,010

Now compare this with someone who earns £115,000.

Income of £115,000

They'll pay tax of:

Taxable income (no personal allowance) £115,000

Basic rate tax £35,000 @ 20% = £7,000

Higher rate tax £80,000 @ 40% = £32,000

Total tax payable = £39,000

Therefore on the additional £15,000 you are subject to additional tax of £8,990. This equates to an effective income tax rate of 60%.

If you're looking at opportunities to reduce this 60% effective rate - sign up to obtain access to the latest tax planning reports and specific guidance.