As a UK resident, you may be wondering how your savings are taxed and if there's a way to earn interest without having to pay tax on it. Fortunately, the UK government introduced the Personal Savings Allowance, which allows you to earn a certain amount of interest tax-free each year. 

In this guide, we'll explain what the Personal Savings Allowance is, what it means for your savings, and how you can make the most of it.

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What is the Personal Savings Allowance and what does it mean for my savings?

The Personal Savings Allowance is a tax exemption introduced by the UK government to enable individuals to earn interest on their savings without being taxed on it.

The amount of interest you can earn tax-free depends on your tax bracket. As of the current tax year, there are three tax bands:

• Basic rate taxpayers: If you are a basic rate taxpayer, you can earn up to £1,000 in savings interest tax-free.
• Higher rate taxpayers: Higher rate taxpayers have a Personal Savings Allowance of £500, meaning they can earn up to £500 in interest tax-free.‍
• Additional rate taxpayers: Unfortunately, individuals in the additional rate tax bracket do not receive a Personal Savings Allowance, and all their savings interest is subject to tax.

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What counts as savings interest under the Personal Savings Allowance?

The Personal Savings Allowance covers various types of savings interest, including interest earned from:

• Bank and building society accounts.
• Credit union and National Savings and Investments (NS&I) accounts.
• Interest distributions from authorised unit trusts and open-ended investment companies (OEICs).
• Income from government or corporate bonds.
• Most types of purchased life annuity payments.

It's important to note that dividends from shares and other investments are not considered savings interest and are subject to different tax rules.

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How much do I need in savings before my interest is taxed?

The Personal Savings Allowance applies to your total savings interest earned in a tax year, which runs from April 6th to April 5th of the following year. The threshold depends on your tax bracket:

• Basic rate taxpayers: You can earn up to £1,000 in savings interest tax-free.
• Higher rate taxpayers: You have a tax-free allowance of £500 for savings interest.
• Additional rate taxpayers: Unfortunately, there is no tax-free allowance for savings interest in this bracket.

For example, if you are a basic rate taxpayer and earn £800 in interest within a tax year, you won't have to pay any tax on it. However, if you earn £1,200, the excess £200 will be subject to tax. See our interest rates calculator.

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You're taxed on savings interest in the tax year you can access it

It's important to remember that the tax year you're taxed on your savings interest is based on when you can access the funds and not when they were earned. For example, if you earned interest in March but couldn't access it until April, it would be taxed in the following tax year.

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Summary

The Personal Savings Allowance offers a great opportunity for UK residents to earn tax-free interest on their savings. By understanding the tax bands and thresholds, you can make the most of your savings and potentially keep more of your hard-earned money. Remember to consult with a financial advisor or HM Revenue and Customs (HMRC) for personalised advice and stay informed about any changes to the tax laws.

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