Beat HMRC's 'punishing' tax trap that could cost you £27,000

High-earning parents are being warned to check their finances as September's childcare changes could leave some families thousands of pounds worse off.

Current tax threshold rules mean that a modest pay rise or bonus could trigger the loss of childcare support and child benefit worth nearly £30,000 a year - turning extra earnings into an expensive mistake. Experts say that unless parents take steps to manage their income, they could fall straight into one of the UK's most punishing tax traps. Charlene Young, senior pensions and savings expert at AJ Bell, said: "September marks the final phase in the extension of free funded childcare hours in England, which could save eligible working parents thousands of pounds a year. But the long-standing £100,000 tax trap could mean this punishes higher-earning parents even further."

AJ Bell's analysis shows that a parent earning £99,000 who receives a £2,000 pay rise would see their entitlement to tax-free childcare, enhanced free-hours provision, and child benefit all cut while also paying more income tax. The result would be that a £2,000 extra income could leave them more than £27,000 worse off overall.

To restore their disposable income and lost childcare support, AJ Bell's calculations show their salary would need to climb to around £156,000 - an effective penalty rate of over 1,000%.

What changes in September

The final stage of the Government's childcare support expansion begins next month. It will extend 30 hours of funded care in term time to children as young as nine months old.

The support can save thousands of pounds annually for eligible households. However, families where one parent's "adjusted net income" exceeds £100,000 are locked out.

That threshold not only cuts off childcare funding but also triggers the gradual withdrawal of the personal allowance at a rate that pushes the effective marginal tax rate on income between £100,000 and £125,140 to 60%.

Combined with the High Income Child Benefit Charge, which removes the benefit completely once a partner earns £80,000, the impact can be dramatic for higher-earning families.

How families miss out

Families where one parent earns over the £100,000 threshold lose all access to tax-free childcare worth up to £2,000 per child each year.

They are excluded from the new 30 free hours of care for children aged nine months to three years. Entitlement for three- and four-year-olds falls from 30 hours to just 15.

Child benefit is unavailable if one parent's income exceeds £80,000.

Taken together, AJ Bell calculates a family with two young children could miss out on almost £30,000 compared with a household below the income threshold.

Ms Young said: "The UK tax system operates primarily on individual earnings, not household income. It means these benefits are not available to a family with one partner earning just over £100,000 and another on £20,000, whereas if mum and dad make £60,000 each, they get the full package of support, giving them a higher family spending power."

How to beat the tax trap

Experts say the rules create a strong financial incentive for parents to reduce their "adjusted net income". Making pension contributions is often the most efficient way to achieve this, as the payments lower taxable income while increasing long-term retirement savings.

For example, a high earner facing the cut-off could restore entitlement by diverting just £800 into a pension, which, after tax relief, reduces adjusted net income by £1,000. That single move could effectively return over £27,000 in lost benefits, while adding to retirement savings at a fraction of the cost.

Ms Young said: "Parents might be able to re-arrange their finances to side-step the penalty by making modest pension contributions. This can improve their overall financial position as they regain lost childcare support and boost their retirement pots."