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The Personal Savings Allowance (PSA) was introduced on 6 April 2016. It allows savers to earn interest on their savings tax-free up to certain limits. Basic-rate taxpayers (someone who pays income tax at 20%) can earn up to £1,000 and higher-rate taxpayers (40%) up to £500. Additional rate taxpayers (those earning over £150,000) have no allowance at all and therefore pay tax on all of the interest they earn (except for stocks and shares ISA or cash ISAs.)
If you are saving into an ISA, all the interest you earn will be free from tax. All other savings accounts or investments that earn interest counts towards your Personal Savings Allowance. For example, if you were a basic rate taxpayer, you could save £65,000 in an account paying 1.5% for a year and earn £981.73 in interest. All of this would be free of tax. Add a further £5,000, totalling £70,000 at 1.5% for a year and your interest would increase to £1,057.25. You would pay 20% tax on £57.25, the amount over your PSA maximum of £1,000.
The PSA applies to interest earned on savings accounts with banks, building societies, credit unions and National Savings and Investments (NS&I). Any interest (not dividends) you earn form investments such as authorised unit trusts, approved investment trusts and open-ended investment companies is also included in the PSA.
If you have invested with a peer-to-peer lender and earn interest, then this is also included in your PSA. Finally, any annuity payments or income from corporate and Government bonds are also included.
You can save up to £20,000 per tax year into an ISA and not pay any tax on your interest. This should be used, especially if you exceed your Personal Savings Allowance.
Disclaimer: This information is intended solely to provide guidance and is not financial advice. Moneyfacts will not be liable for any loss arising from your use or reliance on this information. If you are in any doubt, Moneyfacts recommends you obtain independent financial advice.