National Insurance is an income tax, just masquerading as something that sounds beneficial, like insurance. And in a sense it is, because by paying it you're storing up potential benefits for the future. National Insurance explained in simple terms, coming right up…
National Insurance Explained – Classes
(Before I forget, all these rates are for the 2016/17 tax year.)
National Insurance is a tax on income, is divided into four main classes depending on your earnings level and employment status:
Class 1: Employees earning more than £155 per week
Class 2: Self-employed people earning more than £5,965 per year
Class 3: Voluntary contributions for self-employed people to either fill or avoid gaps in their NI record
Class 4: Self-employed people earning profits over £8,060 per year.
Class 1 – Employees
If you're earning more than £155 per week, which is £672 per month, you will pay Class 1 National insurance. How much you pay depends on what category you're in.
Most employees are either category A or category D, and this letter is used by your employer to work out the rate at which you pay NI. Category A is for employees who are not in a contracted out pension scheme, and category D is for employees who are in a contracted out.
The rate differs depending on the amount you are earning:
Category A
- Between £672 and £3,584 per month – 12%
- Over £3,584 per month – 2%
Category D
- Between £672 and £3,337 per month – 10.6%
- Between £3,337 and £3,532 per month – 12%
- Over £3,532 per month – 2%
Classes 2, 3 and 4 – Self-employed
The other three classes are paid by self-employed people. Again, the rates are different at different earnings levels:
Class 2
- If your profits are over £5,965 per year then you will pay a flat rate of £2.80 per week
Class 3
- Rate depends on the year you're catching up on, but is currently £14.10 per week
Class 4
- Profits between £8,060 and £43,000 per year – 9%
- Profits over £43,000 per year – 2%
What does National Insurance pay for?
Essentially, National Insurance contributions build up an entitlement to certain state benefits, such as maternity allowance or Employment Support Allowance. Some of these benefits may come in useful, but many of them we hope we'll never need. So in that sense it IS a little bit like insurance – you pay it hoping you'll never need it. Except that you don't have a choice with National Insurance!
But it is also about building up years towards your state pension one day. Some say that the state pension won't exist in 20 years, but somehow I doubt that. I know from dealing with countless clients over the years that they wouldn't want to be without the state pension, even if they are wealthy in their own right.
So National Insurance does form an important part of your financial planning. If you're employed, you will always plan with your net of tax income, so it doesn't really figure in your conscious planning. If you're self-employed, you'll want to make sure you keep enough money back to pay your NI. I always recommend managing your finances with good software, like my personal favourite, Freeagent. (That's an affiliate link, by the way 🙂
Finally, you'll find national insurance explained in details at the Gov.uk website, which for a public sector site is very helpful indeed, and also at the Money Advice Service.
As always, if you have any specific questions, why not comment below?
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