01 August 2023
For many savers, it has been some time since they could get excited by the interest returns on their deposits. Indeed, with interest rates so low over the last decade or so, there was more of an incentive to build up debt than savings.
The latest figures from the Bank of England suggest that mindset is changing as they show that in June 2023, households deposited an additional £3.4bn with banks and building societies. Many individuals will also be considering their options for maximising their savings and interest returns.
The use of cash ISAs as a means of receiving an interest return tax-free is well known and some providers are now offering rates in excess of 4%, even if savers require access to the funds. However, the maximum annual contribution to an ISA is £20,000. So those able to save more than this need to look elsewhere.
It is sometimes possible for individuals to benefit from a £5,000 ‘starting rate’ on savings income. This ‘starting rate’ allows for up to £5,000 of interest to be received tax free. However, this is only available to those whose other taxable income is less than £17,570. According to the Office of National Statistics, the average UK salary in April 2022 was £640 per week, or £33,280 per annum. So, the average earner with any savings income will not benefit from the ‘starting rate’.
In addition to the ‘starting rate’ on savings, individuals can also benefit from the ‘personal savings allowance’. This allows for interest from a number of different sources falling within the allowance to be tax free. For basic rate taxpayers, this allowance is £1,000 and for higher rate taxpayers (40% or 42% for Scottish taxpayers), it is £500. Additional rate taxpayers (45% or top rate (47%) for Scottish taxpayers) have no savings allowance.
If these options have been explored and exhausted, those with mortgages may want to consider the possibility of using an offset mortgage. This type of mortgage allows for savings to offset debt and reduce the interest charged on the mortgage. No interest is received on the savings offset, which in turn, means no tax is suffered and it could therefore allow for effective gross interest savings.
This is not a decision that should be taken purely for tax reasons; there are wider financial factors at play, so it is recommended that those considering an offset mortgage take professional advice from a mortgage adviser to determine whether it is suitable for their circumstances. For example, an offset mortgage might give rise to higher fees and interest rates than a standard mortgage.
The answer as to whether an offset mortgage is a better place for savings from a tax perspective will depend on the individual’s personal circumstances, but as a general rule it is likely to make more sense for higher rate and additional rate (top rate for Scottish taxpayers) income taxpayers.
Take for example a 40% taxpayer with a 25-year mortgage of £350,000 and savings of £100,000. Let’s assume their mortgage has a fixed rate for five years of 5.5% and that over the same five year period, they can only obtain a rate of 4% on their savings. In these circumstances, the maths will inevitably lead to a significant saving using an offset mortgage due to the difference in rates and the tax saved. Over a five-year period, the individual could be over £17,000 better off, around £7,500 of which represents an effective tax saving.
So, whilst some may be enjoying the novelty of receiving interest payments, they might be better off not receiving any interest at all and offsetting.