Some tax thresholds have stayed frozen since the 1980s

• The capital gains tax exemption and inheritance tax gifting allowance are currently both at £3,000, the same rate they were in 1981 – 44 years ago
• Fiscal drag affects both higher and lower earners, with the personal allowance and higher-rate income tax threshold frozen until 2028
• The threshold for the 60% tax trap has been frozen for 15 years – a time frame that could’ve seen it rise by over £50,000 

A number of tax thresholds have been frozen for incredibly long periods of time - almost half a century in some cases - and these could’ve been four times higher if they’d kept pace with inflation, reveals new research from interactive investor, the UK’s second-largest investment platform. 

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Shockingly, some tax thresholds have stayed at the same rate since the early 80s. For example, the inheritance tax annual gifting allowance, which has remained at £3,000 since 1981 – 44 years ago. Adjusting this by inflation, it should be £11,529 today – a difference of £8,529. 

Others, like the annual capital gains tax exemption, have increased over the years - rising from £3,000 in 1981 to £12,300 in 2020-21 - but since April 2023, it has been hacked back down to its early 80s level, exposing more investor profits to tax in the process.

Even threshold changes that were made in recent years could be vastly different today, largely due to the period of red-hot inflation. The income tax higher-rate threshold has been frozen at £50,270 since 2021. But if had increased in-line with inflation, this threshold would be around £62,000 today– a difference of almost £12,000.

The dividend allowance, the amount you can earn in dividends every year tax free, has received even harsher treatment. While this annual exemption was a healthy £5,000 in 2016, it was cut to £2,000 the following year and now stands at just £500. If it had risen with inflation instead of facing swingeing cuts, it would be £6,876 today – almost 14 times higher.

Craig Rickman, Personal Finance Expert at interactive investor, says: “Fiscal drag is a sneaky tactic of raising the tax burden over time, as it freezes tax thresholds so that people pay more of their income as wages rise with inflation. 

“While it’s not as obvious as raising tax rates directly, it could have a bigger impact over long periods – particularly when you see the length of time that some of these rates have been frozen.

“Frozen tax thresholds affect everyone. With the personal allowance and higher-rate threshold frozen until 2028, this means that even lower earners will gradually pay tax on more of their income. 

“The noise around fiscal drag is likely to crank up over the coming months as the Autumn Budget heaves into sight. With the government at risk of missing its narrow, iron-clad fiscal rules, tax hikes could be in the offing. And extending the deep freeze on tax thresholds beyond 2028 is a way for the government to raise billions of pounds without technically breaking its manifesto promise not to raise taxes on working people.” 

Fiscal drag race – which threshold has been frozen for the longest?

Craig Rickman adds: “Keeping the nil-rate-band frozen at £325,000 since 2009 is a core reason why inheritance tax receipts are increasing year on year, as rising asset prices are tipping more estates into IHT territory. 

“The introduction of the residence nil rate band in 2017 beefed up the tax-free threshold for many homeowners, but not only has this allowance not budged for five years, it’s fiendishly complex and in some areas arguably unfair. Unless you leave your family home to direct descendants, such as children and grandchildren, you don’t qualify for the residence nil rate band, penalising childless couples, and it starts to taper away once your estate exceeds £2 million.

“The combination of frozen tax-free thresholds and the government’s proposed IHT reforms to pensions, farms and businesses, means more estates will face bigger tax bills over the coming years.”

Another noticeable finding concerns the 60% income tax trap, which happens when your income exceeds £100,000. In this instance, for every £2 of income you earn above £100,000, you lose £1 of your personal allowance – which currently stands at £12,570. This tapering continues until your income reaches £125,140, at which point the entire personal allowance is withdrawn.

This tax threshold has been held for 15 years. In today’s terms, taking inflation into account, it could have moved from £100,000 to just over £150,000.

Craig Rickman adds: “It’s always worth remembering that salary sacrifice is a great option for anyone within this salary band. By putting more money into your pension to keep your salary below £100,000, you’re not only avoiding the tax trap – you’re ensuring a better retirement for yourself.”