Paying tax on savings interest and dividends when on a low income

refluxer

Hi - I've got a couple of (probably fairly straight-forward) tax questions that I'm trying to get my head around, so would appreciate any input. Examples on the government sites and others are usually aimed at people with wages and generally higher earnings, so aren't usually applicable to my current situation !

Basically - I'm not currently working and I receive income in the form of a pension, savings interest and share dividends. The only other benefit I receive is Child Benefit, which is tax-free.

My combined pension income is under the £12,500 Personal Allowance and therefore isn't taxed.

The total interest from savings when added to the pension gives an earnings total of between £12,500 and £18,500 so I don't believe I owe tax on the savings interest either, according to this MSE article on the (additional) starting savings rate (£5k) and personal savings allowance (£1k for me) ?

I received share dividends of roughly £2,900 for each the last two tax years, which I've only recently discovered are above the dividend allowance, which was reduced to £2000 in 2018.

So the way I understand it, dividend tax is calculated after wages/pension and savings income is taken into account as far as the £12,500 personal allowance is concerned. If that is right, then I have none of that remaining and my dividend income (when added to my pension and savings income) would put me in the basic rate band for dividends of between £12,501 and £50k, so I will need to pay tax at the rate of 7.5% on the dividend income above the £2k dividend allowance, which would be 7.5% of £900 in this case - is that right ?

If I've got that right or anything fundamentally wrong or missed anything, I would appreciate any comments. Thanks !

Dazed_and_C0nfused

In a normal world you would have it right.

But tax likes to be taxing 

And as a result you are able to allocate some of your Personal Allowance to the dividend income.  This will mean more of your savings interest has to be taxed but you can make sure you only allocate sufficient Personal Allowance to the dividend income so that you are only liable to be charged tax on a maximum of £6,000 of savings interest.  Which would therefore all be taxed at 0%.

Any remaining dividend income not covered by your Personal Allowance would also have to be taxed but the first £2,000 is taxed at the dividend nil rate of 0% and the rest at 7.5%.

As with all things that get into this level of complexity the best explanation is an example to work through so why not provide the following information,

Tax year in question
Pension income
Savings interest
Dividends

Have you applied for, or are you the recipient of, Marriage Allowance (and if so which?)

refluxer

Thanks for the reply. I don't receive any Marriage Allowance - here are some figures for you, all received untaxed :
Tax year : 2019-2020
Pensions : £11,660
Savings interest : £3,030
Dividends : £2,900

I had read that "HMRC will 'stack' your income, first counting your income from work and pensions and property, then your savings income, and then your dividend income" which was why I was under the impression that as my pension and savings interest take me over the £12.5k personal allowance, I would have to pay dividend tax @ 7.5% of £900 which is my dividend income of £2,900 less the £2k dividend 'nil rate' band (allowance)... or is it not as simple as that ?

Thanks for your help

Dazed_and_C0nfused

The income which remains after your Personal Allowance is used does have to be taxed in a specific order, earnings (wages, pension, business profits etc) first then interest and finally dividends.

But you can allocate the Personal Allowance in whatever way works out best for you.  So this would be best I think.

Pensions of £11,660 use most of the Personal Allowance but there is £840 left unused.
That £840 can be allocated to the dividend income meaning £2,060 of the dividends have to be taxed.
And as no Personal Allowance are used on the interest all that will have to be taxed.

So after the Personal Allowance has been allocated that leaves the following income remaining which must be taxed.

Interest £3,030
Dividends £2,060

Interest of £3,030 is all taxed at the savings starter rate of 0% so no tax payable.
Dividends of £2,000 are taxed at the dividend nil rate (aka dividend allowance) so no tax payable

Dividends of £60 are taxed at 7.5% (dividend lower/basic rate) so £4.50 tax payable.

Total tax owed £4.50 

Aceace

Would the most beneficial order be automatically applied if one completed an online return? 

Dazed_and_C0nfused

Aceace said:

Would the most beneficial order be automatically applied if one completed an online return? 

In most cases yes.

There are some more complicated situations HMRC struggle with and have to correct later.

refluxer

Dazed_and_C0nfused said:

The income which remains after your Personal Allowance is used does have to be taxed in a specific order, earnings (wages, pension, business profits etc) first then interest and finally dividends.

But you can allocate the Personal Allowance in whatever way works out best for you.  So this would be best I think.

Pensions of £11,660 use most of the Personal Allowance but there is £840 left unused.
That £840 can be allocated to the dividend income meaning £2,060 of the dividends have to be taxed.
And as no Personal Allowance are used on the interest all that will have to be taxed.

So after the Personal Allowance has been allocated that leaves the following income remaining which must be taxed.

Interest £3,030
Dividends £2,060

Interest of £3,030 is all taxed at the savings starter rate of 0% so no tax payable.
Dividends of £2,000 are taxed at the dividend nil rate (aka dividend allowance) so no tax payable

Dividends of £60 are taxed at 7.5% (dividend lower/basic rate) so £4.50 tax payable.

Total tax owed £4.50 

Thanks for that - much appreciated. Just goes to show that the rules are not always straight forward (even for relatively simple cases) and they can sometimes even work in your favour !

According to the MSE tax rates article, I need to automatically notify HMRC if I receive dividends totalling over £2k, so is that the way forward ? I don't currently complete a self-assessment form every year - are they likely to add me to the list from now on ? As daunting as it sounds to me, it might actually not be a bad thing to save overlooking things like this in the future.

Dazed_and_C0nfused

I don't think you would need to complete a Self Assessment return in that situation.

I would start by writing to HMRC with full details of your taxable income (including what type of income it was) and explain you think you owe some tax, can they send you a bill and see what happens?

gmenace

Hello, I have a similar question and the order of tax is confusing me. I've just decided to retire with my pension of approx. £4000 pa, I expect share dividends of approx. £6000 pa, and interest of about £9300 pa. I thought I would have to pay tax on the dividends for £5500 (minus the 24/25 allowance of £500) @ 8.75%. Reading this thread I may have it wrong? I would be grateful by way of a similar example explanation if possible. Why is tax this difficult?

Dazed_and_C0nfused

gmenace said:

Hello, I have a similar question and the order of tax is confusing me. I've just decided to retire with my pension of approx. £4000 pa, I expect share dividends of approx. £6000 pa, and interest of about £9300 pa. I thought I would have to pay tax on the dividends for £5500 (minus the 24/25 allowance of £500) @ 8.75%. Reading this thread I may have it wrong? I would be grateful by way of a similar example explanation if possible. Why is tax this difficult?

Your tax liability would be calculated like this (assuming Personal Allowance £12,570, not £11,310).

Total income £19,300
Less Personal Allowance £12,570
Income to be taxed £6,730 

£5,000 x 0% = £0.00 (savings starter rate)
£1,000 x 0% = £0.00 (savings nil rate)
£500 x 0% = £0.00 (dividend nil rate)
£230 x 8.75% = £20.12 (dividend basic rate)

Total tax payable £20.12

gmenace

Thank you very much for that, Dazed_and_C0nfused. A real bonus surprise!