Savings interest and dividends

Interest is paid gross

Banks and building societies pay interest without deducting tax. Your personal savings allowance then covers the first slice, and anything above it is taxable at your normal income tax rate.

Banks report interest to HMRC automatically, so tax on modest amounts is usually collected by adjusting your tax code rather than requiring a return.

Dividends have their own rates

Basic rate band            10.75%
Higher rate band           35.75%
Additional rate band       39.35%

Lower than the equivalent income tax rates, because the
company has already paid corporation tax on the profit
the dividend came out of.

Which band a dividend falls in

Dividends are treated as the top slice of your income. They sit above your salary and any other income when deciding which rate applies, which means a modest dividend on top of a large salary can be taxed at the upper rate even though the dividend itself is small.

The bit HMRC does not spell out

Interest counts when it becomes available to you, not when you withdraw it. A fixed-term bond that pays all its interest at maturity produces the whole amount in one tax year, and that lump can blow through an allowance that several years of smaller payments would have fitted inside comfortably.

Worth thinking about before locking money into a long fixed term, particularly if you are close to a band boundary.

Common mistakes

• Assuming gross interest is tax free. No deduction is not the same as no liability.
• Forgetting the allowance shrinks at higher rate. Two effects from one pay rise.
• Declaring ISA interest. It does not belong on a return.
• Ignoring when a fixed bond matures. It can bunch several years of interest into one.