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Savers making the most of the rise in interest rates could get an unexpected tax bill if they breach the Personal Savings Allowance (PSA).
The PSA was introduced in April 2016, and it allows basic rate taxpayers to earn up to £1,000 in interest on their savings per year without paying tax on it. But the allowance hasn’t changed in value since it was launched, and as interest rates have increased in recent years, there is a greater chance of savers breaching this limit.
The PSA is separate to the Individual Savings Account (ISA) limit, and there is an argument that people might be better off using an ISA so they can have more of their interest growing tax free, as there is no income tax to pay on interest through an ISA, no matter how much they receive.
How the PSA works
As already mentioned, basic rate taxpayers can earn up to £1,000 in interest on their savings each year, without having to pay any income tax. Higher-rate taxpayers can only earn up to £500 in interest before they start paying income tax on their savings interest. Additional rate taxpayers don’t have any PSA, so would pay tax on all interest paid outside an ISA.
Since the PSA was introduced 10 years ago, basic-rate taxpayers will have paid around £4.7 billion in tax on their savings interest, according to analysis of HMRC’s data by Yorkshire Building Society. But it needs updating, according to Rachel Springall, Finance Expert at Moneyfactscompare.co.uk.
She added: “While [the PSA] protected savings interest fromtax when it was launched for many, it’s outdated and needs to change. The factthat millions of ordinary people risk paying a tax bill on their savings showshow the PSA has not moved along with the times.”
Why are more people being taxed?
More people are being pushed into higher income tax bands as wages have increased, but income tax thresholds have been frozen. As people move into higher income tax bands, their PSA allowance is cut.
In fact, the number of higher-rate taxpayers increased from around 4.4m in 2016, to 7m in 2025/26.The number of additional rate taxpayers has risen from 0.4m to 1.23m over the same period. Plus, higher interest rates now compared to 2016 mean that for the same amount sitting in the account, there is a higher chance of the PSA being breached.
For example, a higher-rate taxpayer in 2016 could have saved up £50,000 in a one-year fixed account paying a typical rate of 1% before breaching their PSA. But if they deposited just £12,000 into a one-year bond now, paying 4.50% AER, they would earn £540 in interest and be liable to pay tax, according to figures from Moneyfactscompare.co.uk.
Many people would be better off using a cash ISA to protect their savings interest from income tax. You can currently deposit up to £20,000 in a cash ISA each tax year, and any interest earned is completely exempt from income tax.
Cash ISAs willoften pay rates similar to non-ISA accounts, especially towards the end of thetax year when companies are trying to encourage people to use up their ISAallowance, said Ms Springall.
Even if you’re not at imminent risk of paying income tax on your savings income, it is worth acting now to protect your money from any potential liabilities you might face in future. For example, from the 2027/28 tax year, anyone aged under 65 will only be able to deposit £12,000 into cash ISAs each year. The allowance will remain at £20,000 for those over 65.
We can help you
If you would like to find out how you can make the most of your savings, keeping more of your interest in your pocket without breaking any rules, then please contact us and we will do everything we can to assist you.