Being Indirectly Taxed on "Tax-Free" Personal Savings Allowance – Is This a Mistake?

Goldcircle

Hi all,

I’m hoping someone can help me make sense of something that doesn’t seem quite right. I’m a UK higher-rate taxpayer and complete a self-assessment return due to receiving dividends alongside PAYE income.

This year, I had £432 of interest income from savings — well within the £500 Personal Savings Allowance (PSA) for higher-rate taxpayers. As I understand it:

The £500 PSA is separate from the £12,570 personal allowance.

It is also separate from the £500 tax-free dividend allowance.

So far, so good.

However, after completing my self-assessment and declaring that £432 interest, I noticed something odd: the tax calculation increased my overall tax liability by £117. That seems to directly contradict the idea of the PSA being "tax-free."

To test this, I removed the £432 interest on the HMRC gov gateway SA (just to check the effect, not in reality), and the tax liability drops by £117. So, including that tax-free interest is somehow increasing my tax bill — not by taxing the £432 directly, but by nudging my dividend income into the higher tax bracket. I would completely agree if this method was applied to say if my interest was £700. The £200 over this threshold should be taxed as my other income so nuding my dividend income but only by the £200 not the 700.

This seems to be because the £432 is included in total income for banding purposes, even though it’s supposed to be tax-free under the PSA as it's within the £500 allowance and is separate to personal allowance.

As I understand from reviewing the forum. It's theoretically NOT tax-free. It's considered NIL RATE. but if this is the case it still doesn't explain the following....To put it differently in another scenario and this is where I challenge HMRC calculation based on this scenario.. 

If another higher-rate taxpayer earned the exact same £432 interest and only had PAYE income, and didn't have to do a self-assessment, they wouldn’t be taxed at all on that interest. According to PAYE their tax code 1257L would remain the same.

Yet I, due to declaring dividends and having to do a self-assessment, am being indirectly taxed on it. This being charged £117 additionally

Am I misunderstanding how the PSA works? Is the calculator (or HMRC system) misapplying the PSA indirectly impacting my salary (although a tax payer not completing a SA wouldn't have their tax liability increased if they want £432)

Any insight would be greatly appreciated — it feels like I’m being penalised for something that’s meant to be tax-free for £500 and if i were PAYE only income I wouldn't pay the tax. 

Thanks in advance.

Dazed_and_C0nfused

Goldcircle said:

Hi all,

I’m hoping someone can help me make sense of something that doesn’t seem quite right. I’m a UK higher-rate taxpayer and complete a self-assessment return due to receiving dividends alongside PAYE income.

This year, I had £432 of interest income from savings — well within the £500 Personal Savings Allowance (PSA) for higher-rate taxpayers. As I understand it:

The £500 PSA is separate from the £12,570 personal allowance.

It is also separate from the £500 tax-free dividend allowance.

So far, so good.

However, after completing my self-assessment and declaring that £432 interest, I noticed something odd: the tax calculation increased my overall tax liability by £117. That seems to directly contradict the idea of the PSA being "tax-free."

To test this, I removed the £432 interest on the HMRC gov gateway SA (just to check the effect, not in reality), and the tax liability drops by £117. So, including that tax-free interest is somehow increasing my tax bill — not by taxing the £432 directly, but by nudging my dividend income into the higher tax bracket. I would completely agree if this method was applied to say if my interest was £700. The £200 over this threshold should be taxed as my other income so nuding my dividend income but only by the £200 not the 700.

This seems to be because the £432 is included in total income for banding purposes, even though it’s supposed to be tax-free under the PSA as it's within the £500 allowance and is separate to personal allowance.

As I understand from reviewing the forum. It's theoretically NOT tax-free. It's considered NIL RATE. but if this is the case it still doesn't explain the following....To put it differently in another scenario and this is where I challenge HMRC calculation based on this scenario.. 

If another higher-rate taxpayer earned the exact same £432 interest and only had PAYE income, and didn't have to do a self-assessment, they wouldn’t be taxed at all on that interest. According to PAYE their tax code 1257L would remain the same.

Yet I, due to declaring dividends and having to do a self-assessment, am being indirectly taxed on it. This being charged £117 additionally

Am I misunderstanding how the PSA works? Is the calculator (or HMRC system) misapplying the PSA indirectly impacting my salary (although a tax payer not completing a SA wouldn't have their tax liability increased if they want £432)

Any insight would be greatly appreciated — it feels like I’m being penalised for something that’s meant to be tax-free for £500 and if i were PAYE only income I wouldn't pay the tax. 

Thanks in advance.

ISA's are tax free, normal non ISA interest is not "tax free". 

It's just another source of taxable income. Which is sometimes taxed at 0% (savings starter rate or savings nil rate (aka Personal Savings Allowance)). There are no extra "allowances" for interest (or dividends).

What evidence do you have to support you claim that someone outside of Self Assessment would not have to pay the same amount of tax 🤔

masonic

What is the tax calculation on your SA showing, with and without the interest income? In which sections are you entering the dividend and interest income? Is your total income from all sources above the additional rate threshold?

Goldcircle

Dazed_and_C0nfused said:

Goldcircle said:

Hi all,

I’m hoping someone can help me make sense of something that doesn’t seem quite right. I’m a UK higher-rate taxpayer and complete a self-assessment return due to receiving dividends alongside PAYE income.

This year, I had £432 of interest income from savings — well within the £500 Personal Savings Allowance (PSA) for higher-rate taxpayers. As I understand it:

The £500 PSA is separate from the £12,570 personal allowance.

It is also separate from the £500 tax-free dividend allowance.

So far, so good.

However, after completing my self-assessment and declaring that £432 interest, I noticed something odd: the tax calculation increased my overall tax liability by £117. That seems to directly contradict the idea of the PSA being "tax-free."

To test this, I removed the £432 interest on the HMRC gov gateway SA (just to check the effect, not in reality), and the tax liability drops by £117. So, including that tax-free interest is somehow increasing my tax bill — not by taxing the £432 directly, but by nudging my dividend income into the higher tax bracket. I would completely agree if this method was applied to say if my interest was £700. The £200 over this threshold should be taxed as my other income so nuding my dividend income but only by the £200 not the 700.

This seems to be because the £432 is included in total income for banding purposes, even though it’s supposed to be tax-free under the PSA as it's within the £500 allowance and is separate to personal allowance.

As I understand from reviewing the forum. It's theoretically NOT tax-free. It's considered NIL RATE. but if this is the case it still doesn't explain the following....To put it differently in another scenario and this is where I challenge HMRC calculation based on this scenario.. 

If another higher-rate taxpayer earned the exact same £432 interest and only had PAYE income, and didn't have to do a self-assessment, they wouldn’t be taxed at all on that interest. According to PAYE their tax code 1257L would remain the same.

Yet I, due to declaring dividends and having to do a self-assessment, am being indirectly taxed on it. This being charged £117 additionally

Am I misunderstanding how the PSA works? Is the calculator (or HMRC system) misapplying the PSA indirectly impacting my salary (although a tax payer not completing a SA wouldn't have their tax liability increased if they want £432)

Any insight would be greatly appreciated — it feels like I’m being penalised for something that’s meant to be tax-free for £500 and if i were PAYE only income I wouldn't pay the tax. 

Thanks in advance.

ISA's are tax free, normal non ISA interest is not "tax free". 

It's just another source of taxable income. Which is sometimes taxed at 0% (savings starter rate or savings nil rate (aka Personal Savings Allowance)). There are no extra "allowances" for interest (or dividends).

What evidence do you have to support you claim that someone outside of Self Assessment would not have to pay the same amount of tax 🤔

HMRC advised this on the phone when I enquired. As I stated I'm being taxed indirectly because I complete a SA. but if a non -SA tax payer earned £432 savings interest, they would not pay tax indirectly as this value would not be included in their total income 

Goldcircle

masonic said:

What is the tax calculation on your SA showing, with and without the interest income? In which sections are you entering the dividend and interest income? Is your total income from all sources above the additional rate threshold?

If I enter £432 of untaxed interest my tax liability increases £117. If I enter £0 in untaxed interest my tax liability is £0. 

ColdIron

Goldcircle said:

Dazed_and_C0nfused said:

Goldcircle said:

Hi all,

I’m hoping someone can help me make sense of something that doesn’t seem quite right. I’m a UK higher-rate taxpayer and complete a self-assessment return due to receiving dividends alongside PAYE income.

This year, I had £432 of interest income from savings — well within the £500 Personal Savings Allowance (PSA) for higher-rate taxpayers. As I understand it:

The £500 PSA is separate from the £12,570 personal allowance.

It is also separate from the £500 tax-free dividend allowance.

So far, so good.

However, after completing my self-assessment and declaring that £432 interest, I noticed something odd: the tax calculation increased my overall tax liability by £117. That seems to directly contradict the idea of the PSA being "tax-free."

To test this, I removed the £432 interest on the HMRC gov gateway SA (just to check the effect, not in reality), and the tax liability drops by £117. So, including that tax-free interest is somehow increasing my tax bill — not by taxing the £432 directly, but by nudging my dividend income into the higher tax bracket. I would completely agree if this method was applied to say if my interest was £700. The £200 over this threshold should be taxed as my other income so nuding my dividend income but only by the £200 not the 700.

This seems to be because the £432 is included in total income for banding purposes, even though it’s supposed to be tax-free under the PSA as it's within the £500 allowance and is separate to personal allowance.

As I understand from reviewing the forum. It's theoretically NOT tax-free. It's considered NIL RATE. but if this is the case it still doesn't explain the following....To put it differently in another scenario and this is where I challenge HMRC calculation based on this scenario.. 

If another higher-rate taxpayer earned the exact same £432 interest and only had PAYE income, and didn't have to do a self-assessment, they wouldn’t be taxed at all on that interest. According to PAYE their tax code 1257L would remain the same.

Yet I, due to declaring dividends and having to do a self-assessment, am being indirectly taxed on it. This being charged £117 additionally

Am I misunderstanding how the PSA works? Is the calculator (or HMRC system) misapplying the PSA indirectly impacting my salary (although a tax payer not completing a SA wouldn't have their tax liability increased if they want £432)

Any insight would be greatly appreciated — it feels like I’m being penalised for something that’s meant to be tax-free for £500 and if i were PAYE only income I wouldn't pay the tax. 

Thanks in advance.

ISA's are tax free, normal non ISA interest is not "tax free". 

It's just another source of taxable income. Which is sometimes taxed at 0% (savings starter rate or savings nil rate (aka Personal Savings Allowance)). There are no extra "allowances" for interest (or dividends).

What evidence do you have to support you claim that someone outside of Self Assessment would not have to pay the same amount of tax 🤔

HMRC advised this on the phone when I enquired. As I stated I'm being taxed indirectly because I complete a SA. but if a non -SA tax payer earned £432 savings interest, they would not pay tax indirectly as this value would not be included in their total income 

But the dividend income would not have been declared either?

LITRG

Hello, yes the PSA is a nil rate band and this is a common area of difficulty - hopefully our guidance helps explain it all! https://www.litrg.org.uk/savings-property/tax-savings-and-investments/tax-savings-income/personal-savings-allowance

masonic

Goldcircle said:

masonic said:

What is the tax calculation on your SA showing, with and without the interest income? In which sections are you entering the dividend and interest income? Is your total income from all sources above the additional rate threshold?

If I enter £432 of untaxed interest my tax liability increases £117. If I enter £0 in untaxed interest my tax liability is £0. 

I was asking about the calculation, not the result. As this would probably reveal a tax band had been used up when the interest was included.

masonic

Goldcircle said:

Dazed_and_C0nfused said:

Goldcircle said:

Hi all,

I’m hoping someone can help me make sense of something that doesn’t seem quite right. I’m a UK higher-rate taxpayer and complete a self-assessment return due to receiving dividends alongside PAYE income.

This year, I had £432 of interest income from savings — well within the £500 Personal Savings Allowance (PSA) for higher-rate taxpayers. As I understand it:

The £500 PSA is separate from the £12,570 personal allowance.

It is also separate from the £500 tax-free dividend allowance.

So far, so good.

However, after completing my self-assessment and declaring that £432 interest, I noticed something odd: the tax calculation increased my overall tax liability by £117. That seems to directly contradict the idea of the PSA being "tax-free."

To test this, I removed the £432 interest on the HMRC gov gateway SA (just to check the effect, not in reality), and the tax liability drops by £117. So, including that tax-free interest is somehow increasing my tax bill — not by taxing the £432 directly, but by nudging my dividend income into the higher tax bracket. I would completely agree if this method was applied to say if my interest was £700. The £200 over this threshold should be taxed as my other income so nuding my dividend income but only by the £200 not the 700.

This seems to be because the £432 is included in total income for banding purposes, even though it’s supposed to be tax-free under the PSA as it's within the £500 allowance and is separate to personal allowance.

As I understand from reviewing the forum. It's theoretically NOT tax-free. It's considered NIL RATE. but if this is the case it still doesn't explain the following....To put it differently in another scenario and this is where I challenge HMRC calculation based on this scenario.. 

If another higher-rate taxpayer earned the exact same £432 interest and only had PAYE income, and didn't have to do a self-assessment, they wouldn’t be taxed at all on that interest. According to PAYE their tax code 1257L would remain the same.

Yet I, due to declaring dividends and having to do a self-assessment, am being indirectly taxed on it. This being charged £117 additionally

Am I misunderstanding how the PSA works? Is the calculator (or HMRC system) misapplying the PSA indirectly impacting my salary (although a tax payer not completing a SA wouldn't have their tax liability increased if they want £432)

Any insight would be greatly appreciated — it feels like I’m being penalised for something that’s meant to be tax-free for £500 and if i were PAYE only income I wouldn't pay the tax. 

Thanks in advance.

ISA's are tax free, normal non ISA interest is not "tax free". 

It's just another source of taxable income. Which is sometimes taxed at 0% (savings starter rate or savings nil rate (aka Personal Savings Allowance)). There are no extra "allowances" for interest (or dividends).

What evidence do you have to support you claim that someone outside of Self Assessment would not have to pay the same amount of tax 🤔

HMRC advised this on the phone when I enquired. As I stated I'm being taxed indirectly because I complete a SA. but if a non -SA tax payer earned £432 savings interest, they would not pay tax indirectly as this value would not be included in their total income 

For those not on SA, HMRC receives returns from banks and building societies and will do their own tax calculation. Any tax due will be collected via tax code adjustment.

Dazed_and_C0nfused

Goldcircle said:

Dazed_and_C0nfused said:

Goldcircle said:

Hi all,

I’m hoping someone can help me make sense of something that doesn’t seem quite right. I’m a UK higher-rate taxpayer and complete a self-assessment return due to receiving dividends alongside PAYE income.

This year, I had £432 of interest income from savings — well within the £500 Personal Savings Allowance (PSA) for higher-rate taxpayers. As I understand it:

The £500 PSA is separate from the £12,570 personal allowance.

It is also separate from the £500 tax-free dividend allowance.

So far, so good.

However, after completing my self-assessment and declaring that £432 interest, I noticed something odd: the tax calculation increased my overall tax liability by £117. That seems to directly contradict the idea of the PSA being "tax-free."

To test this, I removed the £432 interest on the HMRC gov gateway SA (just to check the effect, not in reality), and the tax liability drops by £117. So, including that tax-free interest is somehow increasing my tax bill — not by taxing the £432 directly, but by nudging my dividend income into the higher tax bracket. I would completely agree if this method was applied to say if my interest was £700. The £200 over this threshold should be taxed as my other income so nuding my dividend income but only by the £200 not the 700.

This seems to be because the £432 is included in total income for banding purposes, even though it’s supposed to be tax-free under the PSA as it's within the £500 allowance and is separate to personal allowance.

As I understand from reviewing the forum. It's theoretically NOT tax-free. It's considered NIL RATE. but if this is the case it still doesn't explain the following....To put it differently in another scenario and this is where I challenge HMRC calculation based on this scenario.. 

If another higher-rate taxpayer earned the exact same £432 interest and only had PAYE income, and didn't have to do a self-assessment, they wouldn’t be taxed at all on that interest. According to PAYE their tax code 1257L would remain the same.

Yet I, due to declaring dividends and having to do a self-assessment, am being indirectly taxed on it. This being charged £117 additionally

Am I misunderstanding how the PSA works? Is the calculator (or HMRC system) misapplying the PSA indirectly impacting my salary (although a tax payer not completing a SA wouldn't have their tax liability increased if they want £432)

Any insight would be greatly appreciated — it feels like I’m being penalised for something that’s meant to be tax-free for £500 and if i were PAYE only income I wouldn't pay the tax. 

Thanks in advance.

ISA's are tax free, normal non ISA interest is not "tax free". 

It's just another source of taxable income. Which is sometimes taxed at 0% (savings starter rate or savings nil rate (aka Personal Savings Allowance)). There are no extra "allowances" for interest (or dividends).

What evidence do you have to support you claim that someone outside of Self Assessment would not have to pay the same amount of tax 🤔

HMRC advised this on the phone when I enquired. As I stated I'm being taxed indirectly because I complete a SA. but if a non -SA tax payer earned £432 savings interest, they would not pay tax indirectly as this value would not be included in their total income 

You must have got a trainee.  HMRC do an annual review for all those not filing Self Assessment returns and would notify people about unpaid tax. 

Just because someone has a 1257L tax code does not mean they won't be asked to pay tax when this review takes place.

https://www.gov.uk/tax-overpayments-and-underpayments