How Tax Works on Savings and Investments
Understanding Taxation to Maximise Your Wealth
When you're saving or investing, it’s essential to understand how tax works. Knowing what taxes apply to your savings and investments can help you keep more of your money and grow your wealth over time. This guide will explain the basics of investment tax and how you can legally reduce your tax bill within UK regulations.
Personal Savings Allowance (Personal Savings Allowance)
The Personal Savings Allowance (Personal Savings Allowance) lets you earn some interest on your savings without paying tax. How much you can earn tax-free depends on how much you earn overall:
Basic-rate taxpayers (20%) - Can earn up to £1,000 in interest tax-free.
Higher-rate taxpayers (40%) - Can earn up to £500 tax-free.
Additional-rate taxpayers (45%) - Don’t get a Personal Savings Allowance.
Any interest you earn beyond your Personal Savings Allowance is taxed at your standard income tax rate. This rule applies to most types of savings accounts, including high-interest accounts and fixed-term deposits. If you go over your allowance, you’ll pay tax on the extra amount.
Tax-Free Options: ISAs (Individual Savings Accounts)
ISAs are one of the best ways to save and invest tax-free. All interest, dividends, and investment growth within an ISA are tax-free.
Types of ISAs:
Cash ISAs: Interest is completely tax-free. It’s a safe and simple way to save money.
Stocks and Shares ISAs: Investments like shares, bonds, or funds can grow without you having to pay tax on any profits or dividends.
Lifetime ISAs (LISA): Designed to help first-time buyers or those saving for retirement. You can save up to £4,000 each year, and the government adds a 25% bonus.
Innovative Finance ISAs: Include peer-to-peer lending. Interest earned here is tax-free.
The annual ISA allowance is £20,000 for the 2025/26 tax year. You can split this allowance across different types of ISAs if you want.
Income Tax on Investments
When you invest in things like stocks, bonds, or property, you might need to pay tax on the income you earn.
Dividend Tax:
If you own shares in a company, you might get dividends (money paid out from the company’s profits).
You can earn up to £500 in dividends tax-free each year from April 2025.
Above this limit, tax rates are:
Basic rate taxpayers: 8.75%
Higher rate taxpayers: 33.75%
Additional rate taxpayers: 39.35%
Dividends earned through Stocks and Shares ISAs are tax-free.
Capital Gains Tax (CGT) on Investments
If you sell an investment for more than you paid for it, you may need to pay Capital Gains Tax (CGT) on your profit.
Capital Gains Tax Allowance:
You can make up to £3,000 in profits each year without paying tax.
If your gains go over the limit, you pay tax on the extra amount.
CGT rates:
Basic rate taxpayers: 10%
Higher or Additional rate taxpayers: 20%
For property sales (except your main home), rates are higher at 18% and 28%, depending on your tax band.
Ways to Reduce CGT:
Use your annual allowance every year before it expires.
Hold assets within an ISA to avoid CGT.
Offset losses from other investments to reduce your tax bill.
Tax on Bonds and Savings Interest
Interest earned from bonds or savings is taxed like other savings interest. Your Personal Savings Allowance applies, so you may not pay tax unless you exceed your allowance.
Investment Bonds
Investment bonds are another way to grow your money. They can be tax-efficient if used properly, but there are rules to understand:
You can withdraw up to 5% of your investment each year without paying tax immediately. This can continue until you've taken out all the money you originally invested.
Tax is only due when you cash in the bond or withdraw more than the 5% limit.
Tax-Efficient Strategies
Making the most of tax allowances and choosing the right products can help you reduce your tax bill.
Use ISAs: Invest up to £20,000 each year tax-free.
Understand your tax band: Your income level affects how much tax you pay on investments.
Use your CGT allowance: Make sure you don’t go over the limit without planning.
Spread withdrawals across different years: To avoid being pushed into a higher tax band.
Final Thoughts
Understanding how tax works on savings and investments can make a big difference to your financial future. Using tax-efficient accounts like ISAs and being aware of your allowances can help you keep more of your money. Always check for the latest information and consider seeking advice if you’re not sure what’s best for your situation.
The tax treatment is dependent on individual circumstances and may be subject to change in future.
The value of units can fall as well as rise, and you may not get back all of your original investment.
Approved by In Partnership FRN: 192638 10/04/2025