Budget 2025: What it means for you as Reeves extends income ‘stealth tax’ for three years

Rachel Reeves announced an extension of the freeze on income tax thresholds in today’s Budget, meaning more earners will soon be made to pay extra tax “under the hood”.

Originally planned for a freeze until 2028, the finance minister has chosen to extend the freeze for another three years, the Office for Budget Responsibility (OBR) fiscal outlook has revealed.

The tax-free personal allowance was first frozen at £12,570 from 2022 by the previous Conservative government. Freezing tax thresholds could create what economists call “fiscal drift”; As average earnings rise, more people are drawn into higher tax brackets, but the thresholds remain the same.

Both the personal allowance and the National Insurance contribution threshold have been frozen and will remain so until 2030/31. The OBR says the measure will raise £8bn for the exchequer in 2029/30.

Here we tell you everything you need to know about the changes:

How will the extension affect me?

More workers will begin paying higher tax rates than they would otherwise pay following the change.

The spending watchdog found it would mean 780,000 more basic tax payers, 920,000 more higher taxes and 4,000 more additional taxpayers by 2029/30, compared to the OBR forecast in March.

Basic wage workers will pay £140 extra tax each year from April 2028. However, over-million earners, whose income is over £125,140 and therefore currently pay the highest rate of income tax, will not be affected.

What is income tax?

Income tax is a tax paid on income, but not all income is taxable. How much income tax a person pays depends on how much above their personal allowance they earn and how much of their income falls into each tax bracket.

The standard personal allowance has been £12,570 since 2021. This means earners pay no tax on the first £12,570 of their earnings in a financial year. The tax rate then increases depending on how much they earn.

What are the thresholds and income tax ranges?

These bands mean 20 per cent tax is payable on earnings between £12,571 and £50,270. Earnings between £50,271 and £125,140 are subject to tax at a higher rate of 40 per cent.

Those earning more than £100,000 stand to lose their personal allowance of £12,570. This reduces by £1 for every £2 earned over £100,000. Personal allowance is not available for those earning over £125,140. Additionally, an additional income tax of 45 percent is collected on all earnings above this amount.

These rates apply in England, Wales and Northern Ireland, but different rates apply in Scotland.

What is a ‘hidden’ tax increase?

Since 2021 the income tax personal allowance has been frozen at £12,570. This is the amount that can be paid before income tax deductions begin. The measure has been criticized as a way to increase Treasury revenue from income taxes without increasing rates.

Rather than increasing with inflation or average earnings as in previous years, this allowance and all rates will be frozen until at least 2028 unless Ms. Reeves chooses to change it.

The basic rate of 20 per cent is then paid on earnings between £12,571 and £50,270; the higher rate of 40 per cent is paid on winnings between £50,271 and £125,140 and the additional rate of 45 per cent is paid on earnings above £125,141.

The effect of this is what economists call “fiscal drift,” where more people are pulled into higher tax brackets as average earnings rise, but the thresholds remain the same.

The respected Institute for Fiscal Studies says these freezes will reduce household incomes by an average of £1,250 by 2025-26. Analysts also point out that this measure will take more out of workers’ pockets than they saved with recent tax cuts such as national insurance cuts.

A recent report from the think tank notes that “the impact of threshold freezes is already significant.”

“Freezing the thresholds at which basic and higher rates of income tax start to apply alone is expected to reach £39bn a year in 2029-30 (roughly similar to the amount of revenue that would be raised by increasing all income tax rates by 3.5 per cent).