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The personal savings allowance may be something you've heard about, but what does it actually mean and how does it affect your savings? Here's your quick guide to personal savings allowance and the role an ISA can play.

Introduced in April 2016, the personal savings allowance - or 'PSA' - means that the first £1,000 of savings interest earned in a year is tax-free and tax will only need to be paid on savings interest achieved above this threshold.

However, higher rate taxpayers (those paying 40 per cent) have a PSA of £500, whilst additional rate taxpayers (paying 45 per cent) have no tax-exempt savings allowance and must pay tax on any savings income received (unless they hold a stocks & shares ISA or a cash ISA).

  PSA
Basic rate taxpayers £1,000 per annum
Higher rate taxpayers £500 per annum
Additional rate taxpayers £0 per annum

 

However, it's not just your bank or building society savings that count towards your PSA. Corporate bonds or Government gilts that pay interest are included. Also, if you earn interest on a life insurance bond, this will count towards your total allowance, too.

As savings interest have been paid gross (without tax having been deducted) since the PSA was introduced in April 2016, it is now your responsibility to settle any tax payments that you need to pay. This means that if you earn more than your PSA in a tax year, you'll need to inform HMRC. Usually, this will result in your tax code being changed so that you can pay over a year by PAYE instead of one lump sum.

Interest from an ISA

Regardless of the amount earned in interest, tax isn't paid on interest earned from a cash ISA. The ISA allowance for the 2020 / 2021 tax year is £20,000, meaning you can still save tax-free, even if you are an additional rate taxpayer.

If you're considering an ISA and would like to find out more, take a look at our fixed rate cash ISAs.

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