Millions of savers will be hit by fiscal drag and will pay tax on their cash savings because “many will not recognise that they have crossed the line”, experts warn.
The Personal Savings Allowance (PSA) marks its 10-year anniversary on 6 April. However, despite changing interest rates and fiscal drag, it has never been amended.
Savers now receiving interest from the top one-year bond a year ago that paid 4.58% on a £20,000 deposit would have earned £916, breaching the £500 PSA for higher-rate taxpayers, and very close to the £1,000 PSA for basic-rate taxpayers, according to Moneyfacts.
A £20,000 investment in the top one-year ISA that paid 4.45% would have earned £890, completely tax-free.
A survey conducted by Yorkshire Building Society revealed over a third of consumers have never heard of the PSA, and in the past decade, basic-rate taxpayers have paid over £4.7 billion in tax on their savings interest.
This is especially painful for higher rate taxpayers
Rachel Springall, Finance Expert at Moneyfacts, said: “April marks the 10-year anniversary of the PSA, and while it protected savings interest from tax when it was launched for many, it’s outdated and needs to change.
“Interest rates are higher than back then, and more savers are expected to see their savings income taxed in the years ahead due to fiscal drag. Those basic-rate taxpayers dragged into the higher-rate tax band at 40% will see their PSA halved, to £500. This means even someone building a house deposit will pay tax on a standard savings account, but not if it is held in an ISA.”
Graham Nicoll, Financial Planner, Chartered FCSI at NCL Wealth Partners, said education in investing was needed.
He added: “Firstly we need improved financial education for children and consumers more generally, to make them aware of the benefits of saving or investing in ISAs and pensions to close the knowledge gap.
“The figures are unsurprising as this is a predictable tax grab by stealth as ordinary savers, not just the wealthy, are unknowingly being pulled into paying tax on cash left in the bank. The Personal Savings Allowance has not been increased since 2016, so should be uprated, if not linked to inflation, going forwards.”
Many will not recognise that they have crossed the line
Anita Wright, Chartered Financial Planner at Ribble Wealth Management, said ever more people are being drawn into paying tax on their savings.
She added: “The Personal Savings Allowance has not kept pace with reality. It may once have offered modest protection for cash savers, but with interest rates rising and the allowance left frozen, ever more people are being drawn into taxation simply for trying to preserve purchasing power.
“This is fiscal drag in plain sight. Many will not recognise that they have crossed the line until HMRC does it for them, which is precisely why careful management of cash deposits and full use of ISA shelters has become increasingly important.”
Ross Lacey, Director & Independent Financial Adviser at Rayleigh-based Fairview Financial Management, said the tax hit was “painful”.
He added: “This is especially painful for higher and additional rate taxpayers where nearly half the headline interest rate is paid in tax. This can make strategies like using Premium Bonds or potentially Gilts more attractive where cash is being saved.
“It’s important to consider how much cash is too much. If saving over a longer period then cash will rarely outpace inflation so buying power is being lost year after year. This is where investing, mainly across company shares, can give a fighting chance of keeping your buying power.
“This should be done within the context of a proper financial plan, which allows for known expenditure and how to play things during periods where stock markets dip.”
The tax net is getting tighter
Rob Mansfield, Independent Financial Advisor at Tonbridge-based Rootes Wealth Management, said investing is more lucrative than saving cash.
He added: “The tax net is getting tighter so it makes sense to see if there are ways you can legitimately reduce your tax. Premium Bonds and ISAs are a great way of doing it but you should also consider whether cash is the best home for your savings or whether you should consider a Stocks and Shares ISA.
“If you have time on your side, being able to invest in shares and bonds without worrying about tax can be a game changer.”
Samuel Mather-Holgate, Managing Director & IFA at Swindon-based Mather and Murray Financial, said many will be pulled into paying tax on their savings.
He added: “It’s more important than ever for savers to make use of their ISA allowances, with the savings allowance having been cut in half and interest rates higher than they’ve been for the last 15 years.
“Most people don’t even know that savings interest is now paid gross, and will be surprised they need to complete a tax return if making substantial sums.”
