How are bonuses taxed in the UK & can you avoid it?

It’s exciting to find out you’ve been awarded a bonus — and disheartening to realise you’re going to lose a good chunk of it to tax.

But how exactly are bonuses taxed for employees?

And is there anything you can (legally) do to stop your bonus getting taxed?

We explain it all below.

Understanding tax on bonuses

In essence, a bonus is taxed in the same way as your standard income.

Your PAYE, national insurance and (if you have them) student loan amounts will be adjusted for the month you receive your bonus to account for the higher amount.

Frustratingly, that means you won’t get to keep your full bonus unless your income, including the bonus, is under the tax-free income allowance of £12,570. 

Let’s imagine you earn £30,000 per year (with student loans and a four per cent pension contribution) and receive a £1,000 annual bonus for your strong performance.

Typically, you pay around £270 in tax and £170 in National Insurance on your gross monthly income of £2,500.

But during your bonus month, you’ll be taxed on a gross income of £3,500 and pay around £460 in tax and £290 in National Insurance. 

How are bonuses taxed?

You pay National Insurance and income tax on all earned income, including any bonuses.

A bonus can also nudge you into a higher tax bracket, meaning you pay an even higher rate of tax on some or all of it.

If your annual income is £45,000 and you get a £10,000 bonus, £4,730 will be taxed at 40 per cent. 

Someone on this salary is likely to take home around £2,650 per month, depending on their normal pension contributions, student loans and any other deductibles.

During the month you get your bonus, you’re likely to take home around £8,950 — losing around £4,800 in tax, national insurance and student loan payments. 

How to avoid paying tax on bonuses

It’s frustrating when your bonus gets significantly reduced by tax, but there is a way to keep all of it in your pocket — if you’re happy to wait for it.

You can opt for a bonus sacrifice, which means you’ll pay up to 100 per cent of your bonus into your pension pot.  

A bonus sacrifice will only be tax free if the rest of the year’s pensions contributions are under the tax limit.

The annual tax-free limit for pension contributions is £60,000 per year or 100 per cent of your salary if you earn under this amount.

Check your P60 to see how much you’ve contributed, as you can also carry over any unused allowance from the last three tax years.  

There’s just one catch to paying your bonus into your pension. You won’t be able to access it until you’re at least 55 (or 57 from 2028) or you’ll pay a significant tax penalty.

Lots of workplaces will let you designate a portion of your bonus to be sacrificed to your pension so you can still enjoy some of it now.

If someone on a £45,000 salary paid half of their £10,000 bonus into their pension, they’d only lose £1,600 in tax — getting to enjoy £3,400 of it.  

Learn more: what is the 60% tax trap and how can you legally avoid it?

Be wary of scams

As your bonus is paid by your employer, who must take tax off your gross income before it’s given to you, there aren’t any other legal routes for reducing the tax you pay on your bonus.

Anyone who claims to have a solution is simply not telling the truth.

Your employer could get in serious trouble for not correctly taxing your salary and you’ll have to repay any tax you owe at a later date.  

Not sure if you need personal tax advice? You can find a trustworthy tax professional right here at Unbiased.

They’ll help you plan for a tax-efficient future and understand your obligations, particularly if you’re planning to set up your own business or move to self-employment.