ISA v savings account - Have I understood this

masonic

isayhello said:

masonic said:

You need to consider these aspects separately. 

First there is income tax on the earnings, which can be avoided as you say by putting the money into the pension, because pensions are not only tax free investment vehicles, contributions also earn tax relief. 

Second there is tax on interest generated from a sum of money that is saved, which can be avoided by paying down a debt instead of saving the sum of money. Savings interest is taxable, whereas a reduction in borrowing interest is not. One can therefore avoid income tax from savings interest by instead using the money to pay down or offset debt. The net position is therefore equivalent to a tax free savings account at the same rate. But you can't put it in a pension AND use it to pay down a mortgage, so your son would be better off doing the former due to the tax relief.

Just curious, if you overpay your mortgage how do you ensure that your savings aren't taxed, as I understand this is automatically done by hmrc when they change your tax code, so they will do this anyway without knowing what you're using the savings for?

Savings are never taxed, only interest generated from them. If you overpay your mortgage then you don't have the savings to generate the interest, and you don't pay tax on interest you don't receive. HMRC tend to make assumptions about the interest you will earn in the next tax year and adjust your tax code accordingly, so this can result in you paying more tax than you need to if your savings are reduced. However, when they receive the actual figures from the savings institutions after the end of the tax year, they will refund any overpayment in your next tax code. Or you can tell them about interest you will no longer be receiving.

isayhello

masonic said:

Savings are never taxed, only interest generated from them. If you overpay your mortgage then you don't have the savings to generate the interest, and you don't pay tax on interest you don't receive. HMRC tend to make assumptions about the interest you will earn in the next tax year and adjust your tax code accordingly, so this can result in you paying more tax than you need to if your savings are reduced. However, when they receive the actual figures from the savings institutions after the end of the tax year, they will refund any overpayment in your next tax code. Or you can tell them about interest you will no longer be receiving.

Ah ok, what I'd wondered was if you left the savings in for a year and received interest and then overpaid the mortgage, are you still paying the tax on that interest or does it get offset as part of the overpayment on a mortgage?

masonic

isayhello said:

masonic said:

Savings are never taxed, only interest generated from them. If you overpay your mortgage then you don't have the savings to generate the interest, and you don't pay tax on interest you don't receive. HMRC tend to make assumptions about the interest you will earn in the next tax year and adjust your tax code accordingly, so this can result in you paying more tax than you need to if your savings are reduced. However, when they receive the actual figures from the savings institutions after the end of the tax year, they will refund any overpayment in your next tax code. Or you can tell them about interest you will no longer be receiving.

Ah ok, what I'd wondered was if you left the savings in for a year and received interest and then overpaid the mortgage, are you still paying the tax on that interest or does it get offset as part of the overpayment on a mortgage?

No, mortgage repayments are not tax deductible and do not attract tax relief. Individuals pay tax on income, not profits, so you cannot use your living expenses to reduce your tax liability, if that was in any doubt in your mind. Mortgage overpayments will, however, reduce the overall cost of your mortgage without HMRC taking any of the saving you make, which may be worth more to you than the savings interest you could earn on the same money after tax.