Abolishing Tax on Savings for 95% of Savers

18 January 2016

From April 2016, savers will benefit from a new tax exemption on savings income, thanks to the Personal Savings Allowance (PSA) kicking in.

This means most people will not need to use an ISA to get tax-free savings as their interest will automatically be paid tax-free by their bank or building society.

How much is the Personal Savings Allowance (PSA)?

This depends on what rate of tax you pay:

• Basic-rate (20%) taxpayers – will be able to earn £1,000 interest with no tax (this is a maximum saving of £200 compared to now)
• Higher-rate taxpayers – will be able to earn £500 interest with no tax
• Additional rate (45%) taxpayers - £0 – they do not get the allowance

HMRC estimates that this will take 95% of savers out of paying any tax on their savings and a welcome goodbye to the tax return for many.

Is there any point in saving in an ISA?

Any interest earned from current accounts, savings accounts, credit union accounts and fixed rate bonds are all covered under the PSA.  ISAs, the traditional tax-free savings haven, will no longer be the only place savers can earn money tax-free.  However, for many, it will still be best to put your money in a top Cash ISA first and then use your PSA after that.  There are a number of reasons for this:

• ISAs offer long-term tax protection allowing you to build up a substantial ISA pot over time and gradually protecting more and more of your money. This becomes relevant as your savings become larger or you become a higher rate taxpayer and your PSA drops.
• If interest rates rise to, say, 7% (pre credit-crunch levels) then the £1,000 tax-free allowance would be earned on just £14,000 of savings for a basic-rate taxpayer and £7,000 for a higher rate tax payer, which is less than one year’s ISA cash.
• Cash ISA rates often beat normal savings rates – so get the higher rate.
• Spouses can inherit their deceased partner’s ISA, but not their PSA.
• Fixed rate savings accounts mean you must lock away your cash. Cash ISA rules give you access, even on fixed rates, giving you more flexibility.