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Often business owners build up savings over time and they can either leave these in bank accounts, use them to buy certain investments or even lend them to their own company. However these savings are invested, it is important to understand how tax and relief works on the interest you receive from them. It’s crucial to note that the interest earned from savings can be subject to income tax, highlighting the need to be aware of different income tax bands and allowances.
It’s possible to efficiently structure your investments so that you receive up to £7,000 a year in tax free interest, just by getting the ratio of salary, dividends and savings right, and planning effectively to meet financial obligations, including paying tax. Additionally, savings interest can be considered taxable income, requiring careful attention on how it’s reported to avoid any issues when it comes to taxable savings interest.
The Hidden Allowances
Whilst savings are usually an afterthought for most business owners because they aren’t as efficient as investing in a pension or reinvesting in the growth of your own business, but depending on where you are with your personal goals they can offer a useful way to hold money and maintain flexibility.
There aren’t many articles that focus on interest income from the perception of a limited company owners and in my experience there are very few accountants that make their clients aware of the opportunity to utilise these significant savings. Earning £7,000 a year tax free is worth the best part of £2k at the basic rate per year.
Charging your company interest on taxable savings
In some circumstances you may be in a position whereby your company has built up a substantial debt to you, perhaps because of funds you’ve invested over the years or salary and dividends that were created and not issued to you.
Whilst you are perfectly within your rights to withdraw these funds without paying any additional tax, assuming your working capital allows it, it is also possible to leave the money as owed to you and charge the company interest instead.
The benefit of this is that your business gets the corporation tax savings on the interest, but you can withdraw the interest and it is covered by the various allowances mentioned further down. It is fair to charge your company interest at the rate you would have for any other commercial non secured loan, this can often be in the region of 20%.
This interest is reported on a CT61 tax return and your company will have to deduct tax at source with the net amount paid to you. This means that you will then need to reclaim the tax on your CT61 tax return. Additionally, small business owners should be aware of the tax implications of their dividend income, especially in relation to savings and investments, as it’s crucial to proactively report taxable dividend income to HMRC.
How an Accountant can help
We regularly work with our clients in the Northamptonshire area and further afield via in person or online meetings to help them understand how they are utilising the various allowances available to them, in particular we focus on:
Ensuring allowances are used up throughout the family efficiently and responsibly
How to make money available for investment in a tax efficient way
How to control dividends to prevent higher rate tax
Work with your financial advisor to consider all options
Before you continue reading
Our clients enjoy these things as standard:
- Three working hour response time for queries
- Fixed monthly payments and any ad hoc fees pre-agreed
- Full UK based team working 9-5 in the office
- All-inclusive tax planning and software support
- Free representation in the event of an enquiry
Tax on interest already deducted at source
Quite often, the interest from which tax is deducted at source is considered taxable savings income. This section of the tax code determines how it’s handled, including situations where people have tax deducted on interest payments before they are received.
Understanding how much tax should be paid on savings interest is crucial to ensure the correct amount is declared, especially in light of various schemes and allowances that affect taxable savings income. If this has happened to you and you believe you have paid too much tax on your savings interest, you’d need to reclaim it via your self-assessment tax return or by filling out a tax repayment form (R40) if you believe you have paid too much tax.
ISA’s
The most common topic that comes up with savings often relates to bank accounts and in particular ISA’s. An Individual Savings Account gives the owner an opportunity to contribute £4,000 a year and build up to £20,000 in savings over 5 years, without having to pay tax on the interest earned.
There are several other types of ISA’s which can also give you the opportunity to invest in shares as well as save for your first home with the government topping it up to enhance those savings.
Personal Savings Allowance
This valuable allowance gives you £1,000 of tax-free savings income per tax year, which is in addition to the allowances provided by an ISA. If you’re a higher rate tax payer then this is restricted to £500 and it is not available for additional rate payers. The amount of your personal savings allowance varies according to your income tax band, highlighting the impact of tax bands on your eligibility for tax-free interest. Additionally, understanding your personal allowance is crucial as it determines the amount of income you can earn before you are liable to pay tax, further influencing how much savings income you can earn tax-free.
Starting Rate for Savings
And if the personal savings allowance and ISA’s weren’t enough, you also have the opportunity to benefit from the starting rate for savings and earn additional tax free income.
Whilst this generous £5,000 allowance starts to reduce after you’ve earned over £12,570 in the tax year and is eliminated completely once you earnings are above £17,570, small business owners are often in a position to benefit from it as the dividends they take don’t count as earned income for the calculation.
If you receive other income in addition to or instead of your salary from your company, for example rental profits or pensions then you will need to include these when working out how much of your starting rate for savings you have available. However dividends don’t count when working these allowances out so it is particularly generous towards limited company owners.
Don’t let tax savings drive a decision
A genuine piece of advice I would give to any client is to consider the overall cost or opportunity as there are many situations where it can make sense to forgo the tax savings in order to get a much better yield on an investment.
We work closely with our clients financial advisers to consider factors like cashflow and tax when helping them make the right decisions on where to place their money. If you’re not getting the advice you need then get in touch, we’d love to start a conversation with you.
