Investing a bonus tax efficiently
Your future is our priority.
Introduction
It’s the most wonderful time of the year – Bonus Season. The fruits of your labour have paid off, and you stand to gain a handsome additional amount from your employer; perhaps especially as the bankers’ bonus cap was scrapped on 31 October 2023.
When it comes to bonuses, a general guideline suggests allocating around 30% for indulgences, and saving the remaining 70%. However, it’s prudent to devise a plan to anticipate any potential tax implications. Whether you allocate 70% or adjust the proportion based on your needs, it’s also important to consider both short and long-term objectives.
Short-term goals could include expenses such as school or university fees, weddings, or other family obligations. Long-term goals typically revolve around retirement and estate planning, ensuring sufficient funds are set aside to sustain desired lifestyles for yourself and your family beyond your working years and after your passing. Your own, dedicated Private Wealth Adviser could help you to map out your objectives into a bespoke financial plan.
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Book a DemoTax efficient investing
In general, prudent saving involves setting aside funds for short-term needs, whether that’s for unexpected expenses or for specific purposes like holidays, cars, or home improvements. Typically, this involves depositing money into easily accessible cash accounts or Cash ISAs.
While cash savings play a crucial role in our financial toolkit – financial advisors often advise having three to six months’ worth of emergency funds, if feasible – they may not be ideal for long-term objectives. One reason is that cash tends to lose its value to inflation over time.
Saving part of a bonus in easy-access formats may also have tax implications, if the interest you earn exceeds your annual savings allowance (£1,000 for basic rate taxpayers, £500 for higher rate taxpayers and zero for those paying the additional rate).
Please note St. James’s Place do not offer easy access cash accounts or Cash ISAs.
This is where investments play a crucial role. Investing entails allocating funds and allowing them to grow over time, benefiting from the compounding effect, where returns generate further returns. While investing involves assuming more risk, market fluctuations have the ability to balance out over the long term (five years or more).
It’s a good idea to utilise your annual allowances, investing some of your bonus into ISAs (up to £20,000 a year), or a pension (up to the lower of £60,000 or 100% of earnings, other than for those on very high incomes for whom their pension annual allowance may be tapered.
One downside to earning a bonus is that it might push you into a higher tax bracket.
Planning ahead is far preferable, allowing you to mitigate potential tax liabilities before they arise, thereby avoiding last-minute stress.
One strategy to minimise the impact is to allocate a portion of the bonus directly into your pension through salary sacrifice. This approach not only reduces National Insurance and income tax but also enhances your pension savings simultaneously.
It’s worth noting that if your bonus elevates your annual earnings beyond £100,000, you may be at risk of an effective 60% rate of tax on your income – read more about avoiding this tax trap.
Your employer may enable you to receive your bonus through avenues other than in cash. This might help mitigate tax, for example through salary sacrifice schemes, or by earning shares on which you may be able to defer any tax due, until their value is realised.
It’s just as important to take expert advice from a financial planner in these circumstances. In sacrificing earnings, you may for instance reduce your borrowing eligibility for a mortgage.
The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select and the value can therefore go down as well as up. You may get back less than you invested.
The levels and bases of taxation and reliefs from taxation can change at any time. The value of any tax relief generally depends on individual circumstances.
More about ‘Bonus Sacrifice’ to mitigate tax liabilities
Sacrificing some or all of your bonus could help reduce income tax, National Insurance and student loan repayment liabilities. It could also help avoid higher marginal rates of tax on the bonus amount. One of the simplest ways to ‘sacrifice’ your bonus is to ask your employer to pay the amount into your workplace pension.
This method can also help to mitigate the 60% tax trap, as well as preserving or restoring entitlement to Child Benefit Allowance.
If your employer contributes your bonus directly into your pension, then it doesn’t usually pay employer’s National Insurance contributions at 15% – so you may be able to convince your employer to pay some or all of this saving into your pension, further increasing the value of your bonus.
Illustrative example for a £198,000 compensation

In this example, by ‘sacrificing’ their bonus, the employee reduces their student loan, income tax and National Insurance liabilities. While their take-home pay is reduced by 14%, they contribute more than 4x towards their retirement savings.
Illustrative example for a £120,000 compensation

In this example, because ‘sacrificing’ their bonus restores the employee’s personal allowance, their income tax liability is reduced substantially. A 10% reduction in take-home pay is counterbalanced by a 4x increase in their pension contributions.
The levels and bases of taxation and reliefs from taxation can change at any time and are generally dependent on individual circumstances.