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Interest on your savings is increasing your tax bill…

  • 4 min read
  • Last updated 9 Oct 2023

You may have already found out the hard way that interest earned on your savings is taxable. 

As of this year, a whopping 1.8 million UK savers are paying tax on interest earned from their savings. 😲

Yep, we’re just as shocked as you are! 

But, what does this mean for your savings? And why is this happening in the first place?

Why are my savings not improving?   

Interest rates have continued to rise, whilst the Personal Savings Allowance has remained frozen. 

Your Personal Savings Allowance depends on the Income Tax band you’re in. 

We’ve made this table, to explain this further:

Band Taxable IncomeTax Rate Personal Savings Allowance 
Personal Allowance £12,5700%N/A
Basic Rate £12,571 to £50,27020%£1,000
Higher Rate £50,271 to £125,14040%£500
Additional Rate Over £125,14045%£0

Here’s a few examples of interest covered by your Personal Savings Allowance: 

  • 🏦Bank and building society accounts
  • 💰Savings and credit union accounts
  • 🏢Government or company bonds
  • 👭Peer-to-peer lending
  • 👛Trust funds

Tell me more…

According to the Bank of England, interest rates have rocketed from 1.75% to 5.25% in just two years! 🚀

And yet, the best interest rates on savings accounts are struggling to keep up with today’s inflation. 🙄

The personal savings allowance has remained the same since 2016. But wages and the cost of living have not! 

So, you start paying tax on your savings at the same threshold you would have done when things used to be a lot cheaper! 

What do we mean by this, you ask?

We’ll set the scene.

  • Let’s say your annual income is between £12,571 to £50,270 so you’re in the ‘basic rate’ tax band. This means you’re paying tax at a rate of 20%, on anything you earn over £12,571 (a.k.a your personal allowance).
  • As a basic rate taxpayer, you can earn up to £1,000 interest on your savings before you have to pay tax on it.
  • For those in the ‘higher rate’ tax band, paying 40% tax on your earnings between £50,271 to £125,140, you can only earn £500 in savings interest before you’re taxed.
  • Why is this shocking? Well, because in 2016 – the last time this allowance was updated – the personal allowance was £11,000 and a basic rate taxpayer was someone who earned between £11,001 and £43,000.
  • Basically, income thresholds have gone up by almost 17% – but the savings allowance has sat still.

So, in short, the tax-free allowances haven’t changed AT ALL despite today’s crazy inflation. (internally crying 😭) 

Rising rates and frozen allowances 🧊

To make matters worse, many people are unaware that the interest accrued on their savings is taxable. 

And they’ve suffered the cost – literally. 

Taxpayers owed HMRC over £3.4bn in tax on money earned through cash accounts, e.g. Stocks and Shares ISAs, last year – it’s alright for some. Cough cough HMRC.

According to the Financial Times, with rising interest rates and frozen Personal Allowances, the average person paid almost £2,000 in tax on their cash savings last year, in comparison to £1,271 the previous year! 

Unfortunately, HMRC isn’t going anywhere, so savers, you’ll have to swat up on your tax knowledge. 📚

That’s where we can help! 

Understanding your allowances 

There’s more than one allowance for earning interest on your savings before you have to pay taxes. These include:

  • 👛Your Personal Allowance
  • 🏁Starting rate for savings
  • 📊Personal Savings Allowance

Your allowances renew each tax year, 6th April to 5th April, and how much you’re entitled to depends on your other income.

Personal Allowance

The good news is you can use your Personal Allowance to earn interest tax-free. 

Your Personal Allowance, £12,570, is the amount of tax-free income you can earn in a year.

But, remember, you can only use your Personal Allowance to earn interest tax-free if you have not used it up on your wages, pension or other income.🙃

Starting rate for savings

Your starting rate for savings allows you to earn up to £5,000 of interest without having to pay tax on it – woohoo 🥳

But, like most things, the more you earn from other income (e.g. your wages or pension), the lower your starting rate for savings will be. 💔

You should also make note of these rules ✍️: 

  • If your income is £17,570 or more, then you’re not eligible for the starting rate for savings. 😥
  • If you are eligible for the starting rate for savings, remember that every £1 of other income above your Personal Allowance reduces your starting rate by £1. 

What else do I need to remember?

  • Savings in tax-free accounts such as Individual Savings Accounts (ISAs) and some National Savings and Investments accounts do not count towards your allowance.
  • If you have any foreign savings or children’s accounts, you should also check to see how their rules may differ. 👶
  • Finally, if you have a joint account, interest will be split equally between the account holders.

When do I need to file a tax return?

Once you exceed your Personal Allowance, you’ll have to start paying tax on interest earned on your savings. 

The tax you pay on your savings interest will be at the same rate that you pay Income Tax

For example, if you normally pay Income Tax at the basic rate, you’ll pay 20% tax on your savings interest. 

If you’re employed or get a pension, HMRC will change your tax code so you pay the tax automatically.

But, if you normally file a Self Assessment tax return, you need to report any interest earned on savings when you file.

If you earn under £10,000 per tax year from savings and investments, then you don’t have to worry about filing a tax return – phew! 😅

Make sure you are aware of your tax liabilities!   

Save yourself the stress and don’t exceed your personal allowances! 

And, remember. Never assume that your undeclared income will be automatically taxed.🚨

Trust us. Future you will thank you.

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