Making use of the tax free savings allowance
From 6th April of this year the introduction of the Personal Savings Allowance will mean that basic rate taxpayers will be able to earn up to £1,000 in savings income tax-free. Higher rate payers will be able to earn up to half as much, ie £500.
Many people will no longer pay tax on savings interest and banks and building societies will stop deducting tax from your account interest.
What counts as savings income?
Apart from the obvious – interest from bank and building society accounts, savings income also includes:
- interest earned from providers like credit unions or National Savings and Investments
- interest distributions (but not dividends) from authorised unit trusts, open-ended investment companies and investment trusts
- income from government or company bonds
- most types of purchased life annuity payments
Interest from ISAs do not count towards your Personal Savings Allowance because it’s already tax-free.
What’s the allowance worth?
The amount of an individual’s Personal Savings Allowance will depend on their adjusted net income.
Adjusted net income is the total taxable income less certain tax reliefs such as:
- trading losses
- charitable donations made under Gift Aid
- pension contributions paid gross
- additional higher rate tax relief to pension contributions already paid net of basic rate tax relief
Tax Rate | Income Band (adjusted net income) | Personal Savings Allowance |
---|---|---|
Basic 20% | Up to £43,000 | Up to £1,000 in savings income is tax-free |
Higher 40% | £43,001 – £150,000 | Up to £500 in savings income is tax-free |
Additional 45% | Over £150,000 | No Personal Savings Allowance |
Examples: basic rate
(i) Earnings £20,000 p.a + £250 bank interest
No tax due on interest as it is less than the £1,000 Personal Savings Allowance.
(ii) Earnings £20,000 p.a + £1,500 bank interest
No tax due on interest up to £1,000 but basic rate tax of 20% will be due on the £500 interest over the Personal Savings Allowance.
Examples: higher rate
(i) Earnings £60,000 p.a + £250 bank interest
No tax due on interest because it is less than the £500 Personal Savings Allowance.
(ii) Earnings £60,000 p.a + £1,100 bank interest
No tax due on interest up to £500 but higher rate tax of 40% will be due on the £600 interest over the Personal Savings Allowance.
No formal claim needs to be made for the Personal Savings Allowance, so you don’t need to take any action now.
As is the norm with these types of schemes, the complexity arises over the boundaries.
So, how about an example of someone who earns £43,000 + £600 bank interest.
I “assume” in this case, the £600 bank interest takes the person into the 40% tax bracket and so they only get £500 tax free interest?
If so, this implies that someone earning £42,000 + £1000 interest would not pay ANY tax on their interest, but if the interest generated was £1001, this would result in the person being a 40% tax payer, so that extra £1 interest would result in tax on £500 @ 40% i.e. £200!! How is a £200 tax bill on an extra £1 interest justifiable?