£100k Childcare Threshold: What Higher Earners Need to Know

The £100,000 Childcare Cliff Edge: When Earning More Can Leave You Worse Off

A pay rise should normally be good news. But for some higher-earning parents, crossing the £100,000 threshold can come with a surprisingly high price.

For working parents with young children, £100,000 has become a particularly important number.

Under the current childcare rules in England, if either parent has adjusted net income of more than £100,000 a year, the family can lose eligibility for the government-funded childcare entitlement available to working parents.

And because the threshold applies to each parent individually rather than household income, it can create some striking outcomes.

A couple could potentially have adjusted net income of £99,000 each – almost £200,000 between them – and remain eligible.

A single parent with adjusted net income just over £100,000 could lose the entitlement altogether.

That raises an important financial planning question:

What should you do when earning more could actually leave your family worse off?

Why does £100,000 matter for childcare?

Eligible working parents in England can currently receive 30 hours of government-funded childcare a week for children aged from nine months to four years.

However, there is an upper income limit. If you or your partner expect your adjusted net income to be over £100,000 for the current tax year, you will generally not qualify.

The important part is that this isn’t a household-income test.

Consider two families.

Family A: Two parents each have adjusted net income of £99,000. Their combined income is £198,000.

Family B: A single parent has adjusted net income of £101,000.

Subject to meeting the other eligibility criteria, Family A could qualify for the childcare entitlement while Family B would not.

For a single parent, the impact can be particularly significant. There isn’t a second salary in the household to help absorb the additional childcare costs.

£100,000 is already an important tax threshold

Childcare isn’t the only reason this level of income matters.

Once your adjusted net income exceeds £100,000, your tax-free Personal Allowance starts to reduce. You lose £1 of Personal Allowance for every £2 of adjusted net income above £100,000.

This creates a particularly high effective marginal rate of income tax on earnings between £100,000 and £125,140.

Add the potential loss of valuable childcare support and it isn’t difficult to see why some parents start questioning whether a bonus, additional hours or even a promotion is financially worthwhile.

But before deciding to earn less, there is something important to understand.

Your salary isn’t necessarily your adjusted net income

The £100,000 childcare threshold isn’t simply based on the salary shown on your employment contract.

Eligibility is based on adjusted net income.

Broadly, this starts with your taxable income from various sources. That can include salary, bonuses, self-employed profits, rental income, savings interest and dividends.

Certain adjustments are then made.

Depending on your circumstances and how contributions are made, pension contributions can reduce your adjusted net income. Gift Aid donations can also affect the calculation.

That means somebody earning more than £100,000 isn’t necessarily in the same position as somebody whose adjusted net income is above £100,000.

Could pension contributions help?

This is where things become interesting from a financial planning perspective.

Imagine a parent expects their income to be £110,000.

Rather than immediately turning down additional work or deciding that earning above £100,000 isn’t worthwhile, it may be appropriate to consider whether additional pension contributions could form part of their wider financial plan.

In some circumstances, this could help reduce adjusted net income while directing more money towards retirement.

Instead of earning less, you may potentially be able to use some of that income to build more for your future.

But this isn’t a universal solution.

Pension contributions need to be considered alongside your available cash flow, existing pension provision, annual allowance and wider financial objectives. Money paid into a pension is also being set aside for later life and generally isn’t available to meet today’s childcare or household costs.

The important point is not that everyone approaching £100,000 should automatically increase their pension contributions.

It’s that you should understand your options before making decisions about your income or career.

The impact can last much longer than the childcare years

There’s another consequence that can easily be overlooked.

When childcare costs become difficult to justify and a family decides one parent should reduce their hours or leave work, that decision can affect considerably more than this year’s household budget.

And women remain more likely to take on a greater share of childcare responsibilities.

Reducing working hours can potentially mean lower earnings, lower pension contributions, slower salary progression and fewer opportunities for promotion.

Over many years, those effects can compound.

A decision that appears financially sensible when looking only at the immediate childcare bill can look quite different when viewed as part of a 10-, 20- or 30-year financial plan.

That’s why the question shouldn’t simply be:

“How can we keep our childcare costs down?”

It should also be:

“What does this decision mean for our family’s finances now – and for each parent’s financial future?”

Don’t automatically turn down the pay rise

If you’re approaching the £100,000 threshold, don’t assume that the answer is simply to earn less.

Start by understanding the numbers.

Work out your expected adjusted net income rather than looking only at your headline salary. Understand which childcare support could be affected. Look at your pension contributions and overall tax position. Consider your household cash flow and emergency reserves.

And importantly, think about the longer-term consequences of any career decision.

Sometimes increasing pension contributions may make sense.

Sometimes reducing hours genuinely will be the right decision for your family.

And sometimes accepting the promotion, earning more and paying additional childcare costs may still leave you in a stronger position over the longer term.

There isn’t one answer that works for everybody.