As a UK citizen, there are a number of ways you can manage your money. Banks offer a variety of accounts for customers to choose from. The most popular ones are current account and savings account. A current account provides the facility of deposit and withdrawal for day-to-day use. A savings account is slightly different. It pays you a certain rate of interest on the money you save in that account. Although tax follows income everywhere, personal savings allowance can reduce your tax outgo. But first, let’s find out what’s the use of a savings account.
What Does A Saving Account Do?
A saving account is a kind of bank account which you use to save money. Usually, once you get your salary, it gets spent in one or the other way. It becomes very difficult to save money for future needs or emergency. With a saving account, you can inculcate the essential habit of saving. Every individual should save as this is the money you bank on in a financial crisis. This bank account pays their account holders regular interest on their savings. It’s either credited to the account at the end of 12 months or paid monthly if the customer wants. Opening a saving account is an easy way to get your money to bring in more money. You can use your savings for fun e.g. an overseas vacation or for investment purpose, e.g. deposit for a home loan, it can also help you in any sudden expenses so that you don’t have to borrow any bad credit loans.
What Is Personal Savings Allowance?
Now you know what a saving account is. But, you still need to get a clear picture of the types of savings accounts. For convenience’s sake, we divide a saving account into two types- Cash Isas and non-Cash Isas. Cash Isas (Individual Savings Account) allows you to earn tax-free interest. The tax rate is 0% for interest on Cash Isas saving account. However, non-Cash Isas and current accounts charge tax on interest. Here’s where the personal savings allowance comes into play. This allowance provides different maximum limits to different tax brackets. If you fall within a particular tax bracket and your interest is below the limit, it’s tax-free. The government introduced this in 2016.
How Does Personal Savings Allowance Work?
Let’s first get an overview of the UK tax slabs for 2018-19.
|Basic Rate 20%||£11,851 to £46,350|
|Higher Rate 40%||£46,351 to £150,000|
|Additional Rate 45%||£150,000 and above|
Those earning an annual income between £11,851 and £46,350 have to pay 20% tax on their earnings. Those with an income in the range of £46, 351 to £150,000 have to pay 40% tax. An income exceeding £150,000 incurs 45% tax.
Basic-rate taxpayers are eligible for tax-free interest upto £1,000 whereas higher-rate taxpayers are eligible for £500 of tax-free interest. Additional-rate taxpayers have to pay tax on all their savings interest.
How Is Personal Savings Allowance Useful?
If your saving account is anything other than a Cash Isas, personal savings allowance is of great use. Below are a few examples to explain how it works:
For 20% Taxpayers
Scenario 1: You earn £23,000 annual income and £600 savings interest
Scenario 2: You earn £23,000 annual income and £1,200 savings interest
In the first scenario, the entire interest is tax-free as it’s below £1,000. In the second scenario, 20% tax incurs on £200.
For 40% Taxpayers
Scenario 1: You earn £90,000 annual income and £450 savings interest
Scenario 2: You earn £90,000 annual income and £600 savings interest
In the first scenario, the interest is tax-free as it’s below £500. In the second scenario, 40% tax incurs on £100.
Where Is Personal Savings Allowance Not Relevant?
Cash Isas saving account and some NS&I financial products like premium bonds are already tax-free. So personal savings allowance is irrelevant. They are most useful for non-Isa savings accounts and current accounts. You can take the benefit of personal savings allowance even for interest from:
- Bonds- government or corporate
- Peer-to-peer loans
- Income from bond funds, open-ended investment companies and trusts
Income from investment is taxable in two different ways- as savings or dividends. Earnings from loan-based investments are taxable as interest, whereas those from company shares are taxable as dividend income. If you have a property on lease, the rent you receive will be considered as work or pension income.
What If My Interest Is More Than My Personal Savings Allowance?
It can always happen that your interest earning is more than the maximum personal savings allowance you’re eligible for. If so, banks and building societies automatically deduct tax through PAYE (Pay-As-You-Earn). You can also declare the extra interest on a tax self-assessment form. There are plans in the making to revolutionise the working of the current UK tax system.
What Should I Do If I Paid Too Much Interest?
Sometimes, even banks and building societies might make mistakes. They might calculate and wrongly deduct extra tax without considering personal savings allowance. In such cases, account holders can receive a refund from the tax authorities. All you need to do is fill in and submit the R40 form to the government. If you notice that your bank has been wrongly deducting tax on interest, you can claim a refund upto four previous years. Normally, it takes time for the tax authorities to process your claim. It’s advisable to wait till around six weeks to hear back from them.
What If I Have A Very Low Annual Income?
Like in most countries, tax in the UK doesn’t start from an income of £1,000 or £2,000. There are privileges and exemptions for low wage earners. Employees earning under £11,850 don’t pay any tax on their income. This is called personal income tax allowance. It’s an extra tax break in addition to personal savings allowance. It’s not bad even if you earn a small paycheck.
Then Are Isas Meaningless?
Some things may make you think that Cash Isa saving account is meaningless. Non-Isa bank accounts offer a higher rate of interest and there are loads of exemptions for low wage earners. Yet, Isas are beneficial if you save more or earn more yearly income. The best way to make your money plant grow into a tree is by boosting returns and reducing tax payment.
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