Personal Savings Allowance
Every basic rate taxpayer in the UK currently has a Personal Savings Allowance (PSA) of £1,000. This means the first £1,000 of savings interest earned in a year is tax-free and you only have to pay tax on savings interest above this. If you’re a higher rate taxpayer (40%), your allowance is £500, while 45% taxpayers have no tax-exempt savings allowance at all.
Be careful, however, as it’s not just your savings at the bank or building society that count towards your £1,000 interest amount. If you own corporate bonds or government gilts that also pay interest, this will be included.
Also, if you invest in a unit trust or similar that pay what is called ‘Interest Dividend’ or earn interest on a life insurance bond such as a with-profits bond or on an annuity that's not a pension annuity, this too will count towards your total allowance.
Starting Rate Savers Allowance
Low-income earners can also benefit from a 0% ‘starting rate’ of income tax for up to £5,000 of savings interest. This reduces for every £1 you earn over the Personal Income Tax Allowance of £12,570 (2024/25 tax year). So, if you earn £13,570, your 0% starting rate for savings would be a maximum of £4,000 (£5,000 allowance minus £1,000 over your tax allowance).
If your overall taxable income (from employment plus your savings interest) is £18,570 or less, you may not need to pay tax on your savings income. This amount is made up of your annual Personal Income Tax Allowance, plus the 0% rate for £5,000 of savings income, plus the £1,000 new Personal Savings allowance. Your income would need to be exactly the same as the Personal Income Tax Allowance to get the full £18,570 benefit.
A Few Examples
I know this is a bit complicated and the following examples should help:
If you earn £10,000 from employment plus £5,000 in savings interest, no income tax will be payable at all. The employment income is less than the £12,570 personal income tax allowance, and the savings income is within the 0% starting rate for savings.
If your income from employment was £14,000 and your savings interest was £3,000, you would need to pay 20% tax on £1,430 of earned income (the amount over the £12,570 personal income tax allowance), but your savings income would be tax-free under the starting rate for savings.
If you earn £17,000 from your job and £1,000 from savings, you would pay 20% tax on £4,430 of income. The savings income would be tax-free, as £500 would be charged at the 0% starting rate for savings and £500 would be within the personal savings allowance.
If you do need to pay tax on your savings, the amount of tax you pay depends on your tax rate, which in turn is determined by the type of income and how much of it you receive every tax year (6 April to the following 5 April).
Paying The Tax
If you do need to pay tax on your savings, the amount will depend on your tax rate, which in turn is determined by the type of income and how much of it you receive every tax year (6 April to the following 5 April). Here’s the breakdown for the 2024 / 2025 tax year:
Basic Tax Rate: 20%
Higher Tax Rate: 40%
Additional Rate: 45%
A crucial change since April 2016 is that your savings interest is paid gross, i.e. without tax having been deducted. This means it is now down to the individual saver to settle any tax payments they need to pay.
However, for those in employment or receiving a pension, this will normally arranged automatically by HMRC. They will normally do this by changing your tax code for the following year so that you can pay over the course of the year and not in a single lump sum.
Savings accounts providers must report the interest paid to HMRC each year so they can work out any tax due. If you already complete a self-assessment you’ll need to declare your interest on there and if you earn over £10,000 a year in interest on savings or investments, you must complete a self-assessment form.
Remember, you don't pay tax on interest you earn from a cash ISA regardless of the amount earned in interest. You can place up to £20,000 into a cash ISA in the 2024/25 tax year.
Tax On A Fixed Rate Bond
The tax you’ll need to pay on your fixed rate bond can differ depending on its individual terms, like whether your interest is taken as income, or whether you are allowed to cash in the bond early. That’s because HMRC states tax is only payable, “when it is received or made available to the recipient.”
However, it becomes more complicated because it is also important to note if your interest is paid as income or reinvested into your balance. Savings paid as income will be liable for tax at that point, but there are different rules if it is paid into your account.
Regardless of your intentions to compound your interest, if you can’t access your interest before the bond matures then the HMRC deems the interest to be paid on maturity. This is even the case if your bond pays its interest annually or monthly.
This can create an increased tax liability in the year the bond matures because the total interest earned could exceed your PSA. If you’re holding a longer-term bond, which has a term of over a year, it also means that it won’t contribute to your PSA in other tax years. This can be used on other savings accounts if need be.
Tax On A Stocks & Shares ISA
Interest or investment growth earned on a stocks & shares ISA is also exempt from personal income tax and capital gains tax. The full allowance of £20,000 can be invested into a stocks & shares ISA in the 2024/25 tax year.
Currently, you don't need to declare any income or capital gains from an ISA to HMRC on your tax return and income from stocks & shares ISA funds that is paid as a dividend is paid totally tax-free.
Note that if you invest in shares or equity funds outside an ISA, you can earn up to £500 in dividend income without paying tax on it. Dividends above this amount will be taxed at 8.75% for basic rate taxpayers, 33.75% for higher rate taxpayers or 39.35% for additional rate taxpayers.
Tax On An Investment Bond
The tax rules for qualifying UK investment bonds allow up to 5% of the original capital to be withdrawn each year with no immediate tax liability. After 20 years, this could theoretically be 100% of the capital.
If you’ve used your 5% allowance every year, this will no longer be available to you. If you haven’t used your full allowance, this can be carried forward until 100% of the capital has been withdrawn.
If you make any further withdrawals after this, you will be taxed at an additional 20% for a higher rate taxpayer (as the fund where your money is invested is already taxed at 20%).
I Think That’s It!
I hope this hasn’t been too hard going. So much of my world is complicated, there’s just no getting around it. That said, I hope you’ve been able to pick out one or two bits that might have been useful or relevant to you.
As always, if you have any questions, don’t hessite to shout.
Until next time!