As the Scottish government outlines its proposed Scottish income tax rates and thresholds for 2025-26, businesses are grappling with the potential implications for recruitment, retention, and operational costs. While the government has introduced slight inflationary adjustments to the lower tax bands, the freeze on higher thresholds continues to widen the fiscal gap between Scotland and the rest of the UK.

Here’s an overview of the proposed tax bands and rates for 2025-26:

Band	Earnings	Rate
Personal allowance	Under £12,570*	0%
Starter rate	£12,571 – £15,397	19%
Scottish basic rate	£15,398 – £27,491	20%
Intermediate rate	£27,492 – £43,662	21%
Higher rate	£43,663 – £75,000	42%
Advanced rate	£75,001 – £125,140	45%
Top rate	Over £125,140	48%

*Personal allowance is reduced by £1 for every £2 earned over £100,000.

How Does this Change in Scottish Income Tax Affect Businesses?

1. Recruitment Challenges

The widening tax disparity between Scotland and the rest of the UK may deter top talent from relocating north of the border. High earners face significantly higher income tax bills in Scotland compared to other parts of the UK. For example, a salary of £110,000 results in a tax liability of £37,513.80 in Scotland, compared to £33,432.00 elsewhere in the UK, a difference of £4,081.80. Businesses that depend on senior executives or specialists may need to offer additional incentives or higher salaries to offset this discrepancy.

2. Increased Costs for Employers

Although income tax is paid by employees, businesses may need to compensate workers for the higher tax burden in Scotland. This could manifest as increased salary demands, particularly in sectors like technology, healthcare, and financial services, where talent is in short supply. Moreover, the marginal tax rate for certain income brackets (e.g., 50% effective rate between £43,662 and £50,270 when including National Insurance) may intensify employee dissatisfaction, prompting companies to adjust pay scales to retain talent.

3. Impact on Wage Growth

While the starter and basic rate thresholds have been adjusted for inflation, the freeze on higher rate and advanced rate thresholds has effectively created “fiscal drag.” As wages rise, more employees are pushed into higher tax bands, increasing their tax burden without corresponding increases in disposable income. For businesses, this could limit workers’ willingness to take on extra hours, overtime, or promotions, ultimately impacting productivity.

4. Complications for Cross-Border Businesses

Businesses operating both in Scotland and elsewhere in the UK may face administrative hurdles. Payroll systems must account for differing tax rates and bands, which can increase compliance costs and complexity. Additionally, the tax disparity could create tensions among employees at similar levels of seniority who are taxed differently depending on their location.

What Can Businesses Do?

• Adapt Compensation Strategies: Employers may need to reassess salary packages and benefits to attract and retain talent. Offering perks like enhanced pensions, flexible working arrangements, or relocation allowances can mitigate the perceived disadvantages of Scotland’s higher tax rates.
• Communicate Transparently: Ensure employees understand their take-home pay and the broader tax context. Highlight other benefits of living and working in Scotland, such as quality of life and public services.
• Engage with Policymakers: Industry groups and business leaders should advocate for policies that promote competitiveness, such as further inflationary adjustments to higher tax bands or other incentives for high earners.

Conclusion

While Scotland’s progressive tax system offers lower rates for low-income earners, the higher tax burden on middle and high earners presents challenges for businesses. By addressing these issues proactively, companies can continue to attract and retain talent while adapting to the evolving fiscal landscape.

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