Savings income doesn’t need to be taxing, but it might be taxed!
Prior 6 April 2016 savings from bank and building society accounts were taxed automatically at the basic rate of income tax meaning that for basic rate tax payers there was no further tax to pay…….simple!
After this date however, the Government changed the legislation and banks and building societies stopped deducting tax from your account interest. At the same time a Personal Savings allowance was introduced and if you are a basic rate taxpayer you can earn up to £1,000 in savings income tax-free. Higher rate taxpayers will be able to earn up to £500. Additional rate tax payers get no allowance at all.
|Tax rate||Income band (adjusted net income)||Personal Savings Allowance|
|Basic 20%||Up to £45,000||Up to £1,000 in savings income is tax-free|
|Higher 40%||£45,000 – £150,000||Up to £500 in savings income is tax-free|
|Additional 45%||Over £150,000||No Personal Savings Allowance|
One of the advantages of this system, for individuals with lower incomes is there is no requirement to tell your bank or building society that you qualify for tax-free interest.
What are the implications for me?
If you are a basic rate tax payer (with earned income above £16,500) and savings in a bank or building society which produces more than £1,000 of interest per annum you will have to pay tax at your highest marginal rate. A higher rate tax payer will have to pay tax if they have interest exceeding £500 per annum.
To provide examples:
An individual earning £20,000 per annum (basic rate) with £76,922 in a bank or building society earning 1.3% per annum gross will have to pay tax on savings income they have from any other source, at their highest marginal rate (expected to be 20%).
An individual earning £50,000 per annum (higher rate) with £38,461 in a bank or building society earning 1.3% per annum gross will have to pay tax on savings income they have from any other source, at their highest marginal rate (expected to be 40%).
If you do not exceed the Personal savings allowance there is no tax to pay however, as can be seen the level of savings does not have to be that significant before tax becomes payable.
Now, you may be thinking that you are not affected by this because you do not receive more than the personal savings allowance (appropriate to your tax rate) from your bank or building society. Unfortunately, the definition of savings income is wider that just account interest from bank and building society accounts and extends to accounts with providers like credit unions or National Savings and Investments (NS&I), interest distributions (but not dividend distributions) from authorised unit trusts, open-ended investment companies and investment trusts, income from government or company bonds and most types of purchased life annuity payments
Please note that Interest from Individual Savings Accounts (ISAs) or tax-free NS&I products (Fixed Interest Savings Certificates and Index-linked Savings Certificates and Premium Bonds) do not count towards your Personal Savings Allowance.
How can I mitigate this?
Individuals should consider take full advantage of their ISA allowance (currently £20,000 per annum) each year and potentially use tax-free NS&I products.
Is that it?
Not quite there is a further complication. Individuals on lower incomes may not have to pay tax even though their savings income exceeds £1,000. There is a starting rate for savings, this means an individual may be able to receive up to £5,000 of interest tax-free. This is the starting rate for savings. The more an individual earns from other income (for example your wages or pension), the less the starting rate for savings will be. If the other income (non-savings) is £16,500 or more you are not eligible for the starting rate for savings. Where your other income is less that £16,500 the starting rate for savings is a maximum of £5,000. Every £1 of other income above your Personal Allowance (the tax-free part of your income currently £11,500) reduces your starting rate for savings by £1.
To provide an example, if an individual earns £15,000 of wages and gets £200 interest on their savings.
Their Personal Allowance is £11,500 and used by the first £11,500 of their wages. The remaining £3,500 of their wages (£15,000 minus £11,500) reduces the starting rate for savings by £3,500.
The remaining starting rate for savings would therefore be £1,500 (£5,000 minus £3,500) in which they would not pay tax on savings interest.
What do you need to do?
You don’t need to do anything to claim your Personal Savings Allowance. If you fill in a Self-Assessment tax return you should carry on doing this as normal.
If you’re a basic rate taxpayer and have savings income or interest of more than £1,000 (£500 for higher rate taxpayers), you’ll have to pay some tax on this. HM Revenue and Customs (HMRC) will normally collect the tax by changing your tax code. Banks and building societies will give HMRC the information they need to do this.
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The information contained in our website is for guidance only and does not constitute advice which should be sought before taking any action. The information is based on our understanding of legislation, whether proposed or in force, and market practice at the time of writing. Levels, bases and reliefs from taxation may be subject to change. Accordingly, no responsibility can be assumed by Fiducia Wealth Management Limited, or any associated companies or persons, its officers or its employees, for any loss occurred in connection with the content hereof and any such action. Professional financial advice is recommended for every case.
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