Are you overpaying tax on your interest income?

For the current tax year to 5 April 2016, if a UK resident and domiciled taxpayer earns less than £10,600, they are not required to pay any UK tax on their income. This income could include employment income, pension income and possibly interest income. At the moment, banks and building societies are required to withhold tax of 20% on any interest received unless the individual has notified the bank that they are a non taxpayer by completing form R85. If they have not, then it will be up to the individual to reclaim any tax back from HM Revenue & Customs by completing form R40. Any repayment claim must be made within four years of the end of the tax year to be accepted by HM Revenue & Customs. For example, a claim for repayment for the year to 5 April 2012 must be made by 5 April 2016. It is important that any non taxpayers ensure that they are not paying tax when it is not required. However, there may be others who are overpaying tax. If an individual will have income (including interest) of less than £15,600 in the current tax year, then the tax rate that applies to interest income will be 0%. This means that some individuals may be in a position to reclaim the tax deducted at source by the bank.

      Example

Derek and his brother Rodney are in a partnership.

For 2015/16, the partnership made profits of £14,000, which are shared 50:50.

Due to a small inheritance from their late Uncle Albert, both have interest income of £5,000 which has had tax deducted of £1,000 (20%) by the bank.

The calculation of their tax individual liability is as follows:

Profits                                                    -              £7,000

Interest                                                  -               £5,000

Total Income                                          -              £12,000

Less: Personal Allowance                        -             (£10,600)

Taxable Income                                      -              £1,400

Tax on income

                 £1,400 x 0%                          -              £0

        Less: Tax Deducted at Source         -              £1,000 

         Tax Due / (Repayable)                   -             (£1,000)

So even though Derek and Rodney had taxable income, because of the 0% rate on savings, they are not required to pay any tax on the interest income and can therefore reclaim the tax deducted by the bank. It is important to remember that the 0% rate only applies from 2015/16 although there was a savings rate of 10% in earlier years which means that some of the tax paid at source could be recouped. Going back to the example above, assuming that was the position for 2014/15, the tax liability would be:

  Profits                                                 -              £7,000

  Interest                                               -              £5,000

  Total Income                                      -              £12,000

         Less: Personal Allowance             -              (£10,000)

Taxable Income                                    -              £2,000

Tax on income

             £2,000 x 10%                          -                £200

      Less: Tax Deducted at Source         -              £1,000

     Tax Due / (Repayable)                     -               (£800)

 

Budget 2015

One of the headlines of the 2015 Budget was the introduction of the new savings allowance, which takes things a step further.

To recap, from April 2016, those individuals with interest from savings will no longer have any tax deducted at source from the interest by their bank.

The new allowance means that depending upon the highest level at which you pay tax, you may not have to pay tax on some, or perhaps all, of your interest income.

The allowances are:

·         £1,000 for basic rate taxpayers

·         £500 for higher rate taxpayers

This effectively means that both taxpayers receive up-to £200 of tax relief, as a basic rate taxpayer would pay 20% tax on interest (£1,000 x 20% = £200) whereas a higher rate taxpayer would pay 40% tax on interest (£500 x 40% = £200).

There is no such allowance for additional rate taxpayers i.e. those with total income in excess of £150,000.

If you have interest income in excess of the above allowances, you need to think about:

1.       Putting the capital into tax efficient investments such as ISA’s or perhaps pensions.

2.       The reporting obligations to HMRC – i.e. if your interest income exceeds the allowance, you may be required to pay tax on the excess as no tax will be deducted at source.

3.       Are you are getting the best return on your investment?

It is important to make sure that you minimise the tax that you pay. Our advisers within both the tax and wealth management teams are only a phone call away.