The interest rates on savings accounts aren’t currently that impressive. Consumers with money to save often find that a lot of the interest that they can earn gets eaten up by the tax they have to pay. There are, however, a range of tax free savings options that may be worth considering to avoid this happening.
ISAs (Individual Savings Accounts)
ISAs have been around since 1999. These accounts allow an individual to save money and/or invest in the stock market in specially designed accounts. Any interest that is earned from ISA accounts is paid tax free.
These accounts have savings/investment limits imposed on them. So, for example, an individual is given a tax free ISA allowance of up to £7,200 a year. Up to £3,600 of this can go into a cash ISA. The rest, or alternatively some or all of the total allowance, can be used in a stocks and shares ISA. Individuals aged 50+ are now allowed to save up to £10,200 (to a maximum of £5,100 in a cash ISA). The extended allowance will apply to everyone else.
(NS&I) National Savings & Investments
Accounts from NS&I are managed by HM Treasury. Individuals that invest in their products will basically be investing in the government. Some of the options on offer here are designed to give tax free savings. These include:
Index-Linked Savings Certificates
Fixed Interest Savings Certificates
Although a consumer can access their savings when they like with NS&I savings certificates products, these are often viewed as medium/long-term savings as the best returns will come over time.
CTF (Child Trust Funds)
CTFs are savings accounts for children that are funded by the government. These accounts were set up to help children get a good start to their adult lives and are designed to be accessed once the child turns 18.
Parents with a child born on/after 1st September 2002 are given a voucher from the government to open an investment or savings account for their child. They will also get an additional voucher when the child turns 7. Low income families qualify for additional funding. An extra £1,200 a year can also be put into the account by family or friends of the child or by the child itself every year.
Tax Free Savings and Pensions
Although individuals may be taxed on part/all of their pension payments when they start to be made, they may benefit from tax free savings benefits before this point. Pension contributions are not taxed while a fund is being built up via the tax relief system. So, individuals that have a personal pension and that use money that they have already been taxed on to pay into it can claim it back in tax relief up to limit of their pension allowance.
Income Tax Allowances and Savings
As well as thinking about tax free savings, some individuals can also use their tax allowance to save money. Each individual in the UK can earn up to a certain amount every year before they are taxed. This rate currently stands at £6,475. Those who are not tax payers or who earn under their limit do not have to pay tax but, if they have standard savings accounts, their bank/building society will tax their interest automatically
A non-tax payer can use an R85 form (available from their bank or building society). This will prevent the bank/building society from taxing interest at the source. Those with low incomes may also want to see if they can claim back any of the tax they may have paid on standard savings accounts.
Just because these savings options come tax free doesn’t mean that consumers should forget about checking out all their options before taking one out. ISA interest rates, for example, can vary a lot and comparing savings accounts deals and offers may be well worth doing before choosing a product.
Ways to Improve Tax Planning
Effective tax planning can help families to save thousands of pounds each and every year. Taking advantage of a personal allowance means that someone is able to pay less tax, meet rising household bills and save additional money for the future. The majority of tax breaks are in-place to encourage families to do just that. For example, pension contributions are not only a means of tax avoidance, they also help families make suitable retirement provisions.
What is Tax Planning?
Professional tax planning or tax avoidance involves minimising or deferring the amount of taxation paid in a legally compliant way. It involves making a series of fundamental changes to the way a family uses and receives their money. It must be distinguished from tax evasion as this can result in serious legal consequences, such as imprisonment.
Pay Less Tax by Increasing Pension Contributions
Making adequate retirement provision is an important part of tax planning. Pension contributions are vital as they ensure that a senior has a sufficient retirement income. Higher-rate tax payers enjoy significant tax relief; for every £60 contributed, £100 goes into the pension pot. The percentage of a salary that can be contributed increases with age.
Inland Revenue rules permit people that don’t work to pay up to £3,600 per annum into a stakeholder pension plan. This is an important part of tax planning for married couples, especially when only one person is a wage earner. Once retirement age is reached, 25 per cent of the pension fund can be received without paying further taxation.
Individual Savings Accounts (ISA’s)
An Individual Savings Account (ISA) allows individuals to save up to £7,200 per annum. An ISA helps with tax planning as the returns are completely tax-free. Married couples should utilise each of their respective ISA allowances and pay less tax than they would in a conventional savings account.
Friendly Societies and Tax Exempt Savings Plans
Friendly Societies are a long term savings plan that helps with tax planning. Although Inland Revenue (IR) rules only permits people to save up to £25 per month, Tax Exempt Savings Plans allow people to pay less tax. Upon maturity, any returns are completely free of Capital Gains Tax (CGT).
Pay Less Tax and Utilise Personal Allowances
Both husband and wife have a personal allowance; this means that each person can earn a certain amount of money before they have to pay income tax. Families that have utilised Individual Savings Accounts, Tax Exempt Savings Plan and other allowances should transfer some of their savings into the names of family members that aren’t currently earning an income.
Whole of Life Insurance Policies
The use of a whole of life insurance policy is often connected to estate planning. They form an intricate part of tax planning as the proceeds of life insurance can be paid into another family members name without the payment of inheritance tax. This can financially benefit families considerably following a bereavement as the rate of inheritance tax is 40 per cent.
Child Trust Funds (CFT’s)
The government introduced Child Trust Funds (CFT’s) to help give young people a start in life. They provide a £250 voucher for every child. However, it is possible for parents to pay up to £100 per month into a CFT fund and benefit from tax relief when helping provide for the child’s future.
Tax planning is vital, especially for higher-rate tax payers. It is particularly important to contribute a sufficient amount in pension contributions in order to pay less tax and ensure an adequate retirement income. An Individual Savings Account is always preferred to a regular savings account because it allows savers to enjoy a tax-free income.
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