Tax on Savings

Dazed_and_confused

Because they don't have a crystal ball and will not make adjustments or issue tax codes in respect of income which doesn't yet exist.

The current facts are you have one pension of £8,500. And a tax code of 1219L means no tax will be deducted from it.

So any savings interest upto £4,000 will be covered by your spare Personal Allowance hence the reduction to your tax code.

Currently neither the savings target rate or savings nil rate are of any use to you.

When your circumstances actually change you should get two tax codes.

850L for the annuity.
400T for the drawdown pension.

As you will then have no spare Personal Allowance the interest (assuming it is no more than £6,000) will all fall to be taxed but at a 0% rate.

Sueluce

I understand that the tax code will be split, as you say (850 & 400) and they don't have a crystal ball, but I can't get my head around why the tax code should be reduced because of an estimated £168 of earned savings interest, especially as you say it should be taxed at 0%. Surely by reducing the code it's going to incur tax at a lower rate of earnings.


Perhaps I will just have to wait and see what happens. I just don't want to pay any tax as my income is so small, so trying to sort it before they deduct it from me.

Thank for your help.

Mr.Saver

Sueluce wrote: »

I understand that the tax code will be split, as you say (850 & 400) and they don't have a crystal ball, but I can't get my head around why the tax code should be reduced because of an estimated £168 of earned savings interest, especially as you say it should be taxed at 0%. Surely by reducing the code it's going to incur tax at a lower rate of earnings.


Perhaps I will just have to wait and see what happens. I just don't want to pay any tax as my income is so small, so trying to sort it before they deduct it from me.

Thank for your help.

At the moment, before the drawdown starts, you are earning less that your (reduced) personal allowance right now, so you won't pay any tax on it.

The tax code change is to collect the correct amount of tax if your income raises dramatically (e.g.: 20k annually) in the middle of this tax year.

If you don't want to pay any taxes (and get a refund later) when you start the drawdown, you will need to tell HMRC when is the drawdown starting, and the expected amount from the drawdown. So HMRC can review your tax code, and avoid collecting taxes from you if they don't need to.

pattieshoe

I deferred state pension for a few years and then took the lump sum to carry out repairs to my house. I was told I did not have to pay tax on this as my income would be below the £11,500 allowance for that year 17/18
I have since received a letter from HMRC asking me for £2486.41 tax from 2017/18 made up as follows:-
17/18 Income £11,418
bank interest £368
making a total of £11786 which exceeds my allowance so I am due to pay the tax on the lump sum for going over by £286.
I thought my bank interest should not be counted as Martin always says you can earn £1000 interest without being taxed. HMRC don't agree. I can now see why people keep their savings under the mattress and not in the bank!

eskbanker

pattieshoe wrote: »

I deferred state pension for a few years and then took the lump sum to carry out repairs to my house. I was told I did not have to pay tax on this as my income would be below the £11,500 allowance for that year 17/18
I have since received a letter from HMRC asking me for £2486.41 tax from 2017/18 made up as follows:-
17/18 Income £11,418
bank interest £368
making a total of £11786 which exceeds my allowance so I am due to pay the tax on the lump sum for going over by £286.
I thought my bank interest should not be counted as Martin always says you can earn £1000 interest without being taxed. HMRC don't agree. I can now see why people keep their savings under the mattress and not in the bank!

This probably ought to be in a separate thread as your query is specifically about taxation of a lump sum, but it sounds like you were misinformed - lump sums from deferring SP are taxable, as per https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/626494/state-pension-deferral-if-you-reached-state-pension-age-before-6-april-2016-extra-information.pdf:

How much will I get if I defer my State Pension?

If you reached State Pension age before 6 April 2016 you may choose one of these two options:

• Extra State Pension - taking a higher weekly State Pension for life if you defer for at least five weeks. For each full year you put off claiming, you could get a 10.4% increase of your State Pension, or
  
• Lump-sum payment - taking a one-off, taxable lump-sum payment if you put off claiming your State Pension for at least 12 months without a break, and then getting your normal weekly State Pension for life. This means that you will get a one-off payment based on the amount of State Pension you would have got if you had been claiming it, as well as interest on this amount. (The interest will always be at least 2% above the Bank of England ‘base rate’.) You will also get your State Pension at the normal rate when you claim it.

Your post is confusing though, as HMRC won't ask for £2486.41 tax if your total income (including the lump sum) was £11,786 - is the lump sum definitely included in that £11,418 non-savings income?

Edit: I misunderstood the point being made, but this scenario is the same one as the worked example for Graeme in the document posted by xylophone below, and essentially boils down to the difference between 'tax-free income' and 'income taxable at 0%'. As sub-£1K savings interest falls into the latter category, the amount is enough to mean that your highest tax rate is regarded as being the 20% basic rate and the consequence of this is that the lump sum is therefore taxable at that rate. This must be one of the more extreme examples though, where £286 of income gives rise to an additional tax liability of £2486, effectively a marginal tax rate of 869%!

xylophone

See https://www.litrg.org.uk/tax-guides/pensioners/what-tax-do-i-pay-my-state-pension-lump-sum

Dazed_and_confused

I thought my bank interest should not be counted as Martin always says you can earn £1000 interest without being taxed. HMRC don't agree

You have misunderstood a few things. Firstly you are not able to make use of the £1,000 savings nil rate of tax (aka Personal Savings Allowance).

Your income is too low. Your savings interest is taxable income and £286 of it is being taxed. It is not "tax-free". You are being taxed at the savings starter rate of tax. Which is 0%.

This is a perfect example of how misleading references to tax free are. A very expensive lesson.

pattieshoe

Many thanks for your replies, I should have gone onto another thread, first time of posting on anything, ever, sorry.
I should have explained that when I first received the 12k lump sum from HMRC they had already taken the £2486 tax from it. OK with me I expected it. Months later they refunded this tax to me saying I didn't need to pay it as a I was a low earner - I didn't realise this was possible. Months later again they asked for it back because the bank told them I had received interest income of £368 making me a tax payer.. This is when I became very confused that for going over by such a small amount I paid such a large amount of tax. Had I known I would, of course, ensured I didn't earn that interest, hence keeping my money under the bed comments. Still no way round it. Thanks again.