During the Chancellor’s Budget speech, savers received the unwelcome news that the rate of tax on savings income is to increase and the cash ISA limit to fall. Both changes will take effect from 6 April 2027.
Taxation of savings income
The taxation of savings income is quite complex as a number of factors come into play.
The first complication is the personal savings allowance, which is available to some taxpayers but not all. Basic rate taxpayers have a personal savings allowance of £1,000, whereas for higher rate taxpayers, the allowance is only £500. Additional rate taxpayers do not receive a personal savings allowance. Where available, the personal savings allowance is in addition to the personal allowance.
The second complication is the savings starting rate band. The savings starting rate of tax of 0% applies to savings income within the savings starting rate band. This is set at £5,000. However, if the taxpayer has non-savings income in excess of their personal allowance, the savings starting rate band is reduced pound for pound. Individuals with taxable non-savings income of £5,000 and above do not benefit from the savings starting rate band.
Where an individual has savings income that is not sheltered by the personal allowance or the personal savings allowance and which does not benefit from the savings starting rate, it is currently taxed at the normal income tax rates, i.e. 20% where it falls in the basic rate band, 40% where it falls within the higher rate band and at 45% where it falls in the additional rate band.
However, this is to change. From 6 April 2027, savings income will be taxed at the relevant savings tax rate. The rates will be two percentage points higher than the standard income tax rates. Consequently, for 2027/28, savings income will be taxed at 22% where it falls in the basic rate band, at 42% where it falls in the higher rate band and at 47% where it falls in the additional rate band.
In a further twist, the income tax ordering rules are also changed from 6 April 2027, moving away from the principle that reliefs and allowances are allocated so as to give the lowest tax bill. From that date, the personal allowance will be allocated first against employment income, trading and pension income, rather than against savings and property income which are taxable at a higher rate.
Cash ISAs
Savers are advised to make use of their cash ISA allowance to keep interest on savings tax-free. With the rise in the savings tax rates from 6 April 2027, using the cash ISA allowance will generate greater tax savings.
However, for those who prefer to keep their savings in cash rather than investing in stocks and shares, there is more bad news. From 6 April 2027, savers under 65 will only be able to invest £12,000 a year in a cash ISA; the ISA limit is to remain at £20,000, but for under 65s using their full allowance, at least £8,000 of that must be invested in a stocks and shares ISA. However, savers aged 65 and over can invest the full £20,000 in a cash ISA.
Existing ISAs are unaffected by the change.
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