The Chancellor has mounted another raid on our savings in a move that will punish prudent households.
Tax rates on savings interest will rise twice as much as planned in spring, John Healey announced during his Budget.
Savers will pay an extra 2 percentage points – on top of the 2 percentage point rise scheduled by former Chancellor Rachel Reeves – in a hike predicted to cost taxpayers £125million next year and half a billion pounds by 2028-29.
From April 6, basic rate taxpayers will pay 24 per cent tax on savings interest, higher rate taxpayers 44 per cent and additional rate taxpayers 49 per cent – handing almost half of all the interest they earn to the taxman.
We already pay four times as much in tax on our bank interest than we did four years ago, at £2.8billion, and Laura Suter, head of personal finance at investment group AJ Bell, says the ‘hefty’ rise in rates will make matters worse.
Pensioners will be some of the worst hit by the tax hike as they often hold a large amount in cash to spend during retirement.
But if you split your savings into the right accounts, you can avoid paying this tax altogether.
If you’re facing a rising tax bill on your savings here’s what to do.
Tax rates on savings interest will rise twice as much as planned in spring, John Healey announced during his Budget – affecting nest eggs of all sizes
A £10,000 pot
Those with £10,000 in savings may be able to swerve savings tax entirely thanks to the personal savings allowance. If you are a basic rate taxpayer you can earn £1,000 in savings income tax-free. This falls to £500 for higher rate taxpayers, while additional rate payers get no allowance.
If you had £10,000 in the most competitive savings account available – the LemFi instant access savings account at 5 per cent – you’d make £500 in interest in a year, which would be tax-free even for higher rate taxpayers.
The LemFi account only pays this rate for six months, after which you’d have to move your money to a similar paying account for the rest of the year.
Although no tax is due, it’s sensible to take preventative measures to shield your £10,000 from the taxman by using your Isa allowance.
You can put £20,000 into either cash or stocks and shares Isas each year, where your money can continue to grow free of tax. You could get the same 5 per cent on your £10,000 savings in an Aldermore cash Isa fixed for 15 months, or 4.95 per cent for a year with UBL UK. Want instant access? Trading 212 offers a 4.87 per cent Isa where you withdraw whenever you like.
Tax saved: You don’t owe any tax in year one, but shield your money from future taxes.
£20,000 pot
At this level you might start to fall foul of the savings tax. If you put it into an account paying 5 per cent, you will generate £1,000 interest in a year.
If you’re a basic rate taxpayer, you’ll still pay no tax as it will come out of your personal savings allowance. For higher rate taxpayers, the first £500 is earned tax-free. Tax on the remaining £500 rises from £200 at 40 per cent to £220 at 44 per cent from April – an increase of £20 thanks to Healey’s changes.
Additional rate taxpayers have no tax-free allowance so their tax bill would rise from £450 at 45 per cent to £490 at 49 per cent, an increase of £40.
Thanks to the Chancellor’s U-turn last week on the amount you can save into cash Isas, you’ll still be able to shelter £20,000 a year in a cash Isa, no matter your age.
You could split your £20,000 nest egg so that £10,000 is in an easy access Isa such as the Trading 212 one, and £10,000 is locked away at 5 per cent with UBL for three years. You’d earn £987 on your money tax-free.
Tax saved: A higher-rate taxpayer saves £220 in tax and an additional-rate taxpayer £490 by putting £20,000 into an Isa.
A £50,000 pot
Jason Hollands, of wealth manager Evelyn Partners, says that Premium Bonds now make sense for some people after the changes
Sheltering money from the Chancellor becomes harder on larger sums. With a £50,000 pot of money, even if you put £20,000 in an Isa you’ll end up paying tax on the remaining £30,000.
If you don’t use an Isa, your tax bill will be significant. A full £50,000 outside an Isa earning 5 per cent would generate £2,500 interest a year.
Assuming you haven’t yet used your savings allowance, your tax at the new rates would be £360 as a basic rate taxpayer, £880 as a higher rate taxpayer and £1,225 as an additional rate taxpayer. Put £20,000 into an Isa and another £20,000 when your allowance resets in April.
Longer term Isas are available for those who can tie up some of their money, including a 5.25 per cent Isa with Aldermore Bank for five years, or 5.15 per cent for three years with Castle Trust.
These would earn £1,050 or £1,030 a year respectively.
With the remaining £30,000, you could consider two tax-free routes: Premium Bonds or short-dated gilts. Premium bond prizes are tax-free and you can hold a maximum of £50,000 per person. They currently have a prize rate of 4.35 per cent, which is supposedly what you would win if you had ‘average luck’.
Jason Hollands, of wealth manager Evelyn Partners, says that the bonds now make sense for some people after the changes.
‘Any prizes are tax-free but prizes are not guaranteed: returns depend on winning and the prize fund rate and odds can change,’ he says.
Tax saved: Putting £20,000 into an Isa and £30,000 into Premium Bonds instead of the taxable account would save £360 in tax for a basic rate taxpayer, £880 for a higher rate taxpayer and £1,225 for an additional rate taxpayer, compared with keeping the full £50,000 in a 5 per cent taxable account.
£100,000 and beyond
Once you have used your £20,000 Isa and £50,000 Premium Bond allowance, you will still have £30,000 subject to savings tax unless you act. If you’re married, one way to shield the money from tax is by putting it into accounts in your partner’s name to use up their allowances too.
By doing this, you could shield another £20,000 in Isas and an extra £50,000 in Premium Bonds.
Another option is to use short-dated gilts. These are slightly more complex and only risk-free if held to maturity.
Gilts are issued by the Government to raise money. Their regular interest payments, known as coupons, are taxable but gains on qualifying gilts are exempt from capital gains tax.
This means that buying a low-coupon gilt below its £100 face value can provide a tax-free gain if you hold it until it matures. You’ll need to choose the right gilts – those with very low coupons – to get the benefit, and bear in mind prices change all the time.
One example is TN28, which matures in January 2028. Its price is about £94.92. On maturity the Government repays £100, giving a price gain of about £5.08.
You can buy gilts through many online trading platforms, including AJ Bell and Hargreaves Lansdown. The platform’s buy price may differ from these market prices, and accrued interest and dealing charges can affect the amount you pay.
Isabella Galliers-Pratt, senior investment director at Rathbones, says TN28’s return is roughly equivalent to a savings account paying 8.4 per cent for additional rate taxpayers and 7.7 per cent for higher-rate taxpayers, based on prices on October 29.
Tax saved: If the whole £100,000 were held in a taxable savings account paying 5 per cent, the annual tax bill would be about £960 for a basic rate taxpayer, £1,980 for a higher rate taxpayer and £2,450 for an additional rate taxpayer.
Splitting it between a £20,000 Isa, £50,000 in Premium Bonds and £30,000 in TN28 would reduce those bills by about £960, £1,980 and £2,431 respectively, before platform fees.
