Usually, you would have to pay Income Tax on the money you earn. But you do not have to pay Income Tax on all types of income.

Earning interest on your savings is available to almost anyone, and it’s possible to do it without paying tax.

This article will discuss how to add bank interest to your tax return and when you should pay tax on your interest earnings.

Adding bank interest in your Self Assessment tax return

If you receive a pension or are employed by a business that isn’t your own, HMRC automatically deducts tax on any savings interest you owe. 

But if you’re self-employed and need to declare savings interest, you’ll have to report it in a Self-Assessment tax return each year. 

How much tax you pay depends on:

  • Your Personal Allowance
  • Your other income
  • Starting rate for savings
  • Personal Savings Allowance

Starting rate for savings

The starting rate for savings means that you may get up to £5,000 of interest and not have to pay tax on it. 

Your starting rate depends on how much you earn from other income (for example, your wages or pension). The higher your other earnings are, the less your starting rate for savings will be.

The starting rate for savings is a maximum of £5,000. This applies if your other income is less than £17,570.

Every £1 of other income above your Personal Allowance reduces your starting rate for savings by £1. You’re not eligible for the starting rate for savings if your other income is £17,570 or more.

Your Personal Allowance

You can use your Personal Allowance to earn interest tax-free if you have not used it up on your wages, pension or other income.

You do not have to pay tax on the standard Personal Allowance, which is £12,570. 

The amount of Income Tax you pay depends on how much of your income is above your Personal Allowance and how much of your income falls within each tax band.

If you claim Marriage Allowance or Blind Person’s Allowance, your Personal Allowance may be higher. If your income is over £100,000, then your Personal Allowance may be smaller. You do not get a Personal Allowance on taxable income over £125,140.

Personal Savings Allowance

Personal Savings Allowance means you can earn up to £1,000 of interest and not have to pay tax on it. This depends on which Income Tax band you’re in. 

Interest covered by your allowance

Your allowance applies to interest from the following:

  • bank and building society accounts
  • savings and credit union accounts
  • unit trusts, investment trusts and open-ended investment companies
  • peer-to-peer lending
  • trust funds
  • payment protection insurance (PPI)
  • government or company bonds
  • life annuity payments
  • some life insurance contracts

Savings in tax-free accounts like Individual Savings Accounts (ISAs) and some National Savings and Investments accounts do not count towards your allowance. If you have a joint account, interest will be split equally between the account holders.

Your Trading Allowance

The trading allowance is an allowance of £1,000 that’s available to some sole traders. It was first put into place in 2017 to give extra tax relief to sole traders and those with hobby side businesses.

As of 6th April 2017, you don’t have to register for Self Assessment with HMRC if you’re a sole trader and your income from your business is under £1,000 a year.

The trading allowance is not available to limited companies, partnerships, or partners. You will have to register with HMRC if your self-employed income exceeds the £1,000 limit in a tax year.

If you go over your allowance

You pay tax on any interest over your allowance at your usual rate of Income Tax.

When you’re employed or get a pension, HMRC will change your tax code, so you pay the tax automatically. To decide your tax code, HMRC will evaluate how much interest you’ll get in the current year by analysing how much you got the year before.

If you complete a Self Assessment tax return, report any interest earned on savings there. Learn about how to pay Self Assessment tax here.

You need to register for Self Assessment if your income from savings and investments is over £10,000. If you’re not sure, use this tool to help determine if you need to send a tax return.

If you’re not employed, do not get a pension, or complete a Self Assessment, your bank or building society will tell HMRC how much interest you received at the end of the year. HMRC will let you know if you need to pay tax and how to do it.

Reclaim tax you paid on savings interest from previous years

You could reclaim tax paid on your savings interest if your income was below your Personal Allowance. You must reclaim your tax within four years of the end of the relevant tax year.

You can claim this tax back through your Self-Assessment Tax Return, and it usually takes six weeks to get it back.

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