Tax-free savings & the starting savings rate
If you earn less than £18,570 a year from income and savings interest, then all your savings interest is tax-free thanks to tax-free savings and the starting savings rate. This is different to the personal savings allowance – though it complements it – but how these allowances work in practice, and who qualifies, is a bit more complex...
What is tax-free savings and the starting savings rate?
Simply put, for most people these two terms mean that if you earn less than £18,570 a year in income and savings interest combined, you won't have to pay any tax on the interest paid on the savings. This £18,570 figure is made up of three separate allowances:
- Your personal allowance. This is the amount you can earn without paying any income tax – for most people this allowance is £12,570 (for 2022/23).
- The £5,000 starting savings rate. Here the tax rate is 0%, so again this is the amount you can earn in savings interest before paying any tax on that.
- Your personal savings allowance. This is worth up to £1,000.
Those who have a personal allowance higher than £12,570 will get a higher limit for their savings too. For example, if you get the blind person's allowance, your limit would be £21,170.
For ease, to find your limit for tax-free savings, find out your personal allowance and add £6,000 to it. You can find your likely personal allowance at Gov.uk.
How does this fit in with the personal savings allowance?
The personal savings allowance (PSA) means every basic-rate taxpayer is able to earn £1,000/year in savings interest before paying any tax on it (and higher-rate taxpayers can earn £500).
The PSA adds to these tax-free savings rules. You're still able to earn £5,000 savings interest without paying tax, if you're on a low income, but you'll also pay no tax on the next £1,000 of savings interest – as you use up your personal savings allowance (assuming you pay no or basic-rate tax).
How do these allowances affect the amount of tax I pay?
This can be quite a complex subject as the amount you earn as income – for example, from a job – can affect your allowances for savings interest and whether it's paid tax-free. Let's take the three main scenarios for non-savings income earnings...
- You earn less than £12,570. Here it's fairly simple. You benefit from both the £5,000 starting savings allowance – where you pay 0% tax, plus the personal savings allowance of £1,000. So, you can earn a total of £18,570 from income and savings interest without paying any tax.
- You earn between £12,570 and £17,570. This is where it gets a little complicated. To find your combined tax-free allowance, subtract your annual income (excluding anything you earn from savings) from £18,570. So if you earn £13,570/yr, you could then get a further £5,000 in savings interest and pay no tax (though any amount above this would be taxable – done so through your tax code).
- You earn £17,570 or more. You're taxed as normal on your income and you don't get the £5,000 starting savings allowance. But, you do still get the personal savings allowance relevant to your income tax bracket (£1,000 for basic-rate, £500 for higher-rate taxpayers).
How do I pay tax on saving interest if I owe it?
Your bank or building society will pay all savings interest due to you gross (without tax taken off the amount).
HM Revenue & Customs says any tax owing will be paid through changes to your tax code. So you'll get a lower personal allowance for income tax to pay any tax due on savings interest. HMRC will look at how much you got in saving interest last year and base your tax code next year on that if you went over your personal savings allowance. Those who self-assess will continue to pay through that system.
If you've had a tax code change in the past and are now earning less interest than your PSA, you'll need to contact HMRC as it will need to adjust your 2022/23 tax code to be correct.
You can call it on 0300 200 3300 or go online to your personal tax account – go to 'check your income tax' and then 'tell us about a change'.
If you've paid too much tax on savings interest in previous years, you can reclaim it. Either fill in an R40 form to send to HM Revenue & Customs, or you can reclaim through the self-assessment tax system if you fill that in anyway.
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