All interest you receive is taxable, unless it is from an ISA, but banks and building societies no longer deduct tax from interest paid to individuals. For most taxpayers the rate of tax payable on that interest is 0%, so no tax is in fact due.
This zero tax rate applies where your savings income falls within your Savings Rate Band (SRB), which is worth up to £5,000, or within your Personal Savings Allowance (PSA), which is worth £1,000 for basic rate taxpayers or £500 for higher rate taxpayers. Any savings income which falls outside the SRB or PSA is taxed at your marginal Income Tax rate (currently 20%, 40% or 45%).
The available SRB depends on how much other taxable non-savings income you receive, such as salary, pensions, trading profits or rent. If you can control the type of income you receive you can reduce the total tax you pay for the year.
|Harry has £75,000 of capital invested at 2%, so he receives £1,500 of interest. After deducting his Personal Allowance from his salary of £17,500 he has £5,000 of taxable income, which is deemed to eat up his SRB. He is a basic rate taxpayer, so has a PSA of £1,000.|
|Taxed @ 20%||5,000||1,000|
|Taxed @ 20%||500||100|
|Total tax payable||1,100|
|Harry lends £75,000 to his company, which pays him interest at a commercial rate of 7% (i.e. £5,250) under a written agreement. The company uses the money for development. Harry also reduces his salary to £13,750, so that his total income is still £19,000. Reducing his salary frees up some starting rate band to set against his interest income see below.|
|Taxable @ 20%||1,250||250|
|Taxable @ 20%||500||100|
|Harry’s tax bill has been reduced from £1,100 to £350 on the same level of income. The company must deduct tax at 20% from the interest it pays but this can be reclaimed by Harry.|
|Review your mix of income to maximise your Savings Allowance for 2019/20.|