Unless stated otherwise,the rates illustrated are those for the tax year 2016/2017 as currently announced. As we see with all too much regularity, taxes and these allowances change.
Personal allowance – the first £11,000 of taxable income per person is tax-free
The personal allowance is an important tax break. Couples can spread their investments between them to ensure that they fully use both personal allowances, potentially providing a combined £22,000 of tax-free income a year.
To give an example of how this can work,the new state pension from April 2016 will be £8,093.80 a year. A pension pot of £110,000 would generate a tax-free cash sum of £27,500, plus, an indexed annuity of around £2,900 a year. This provides an indexed income to absorb the personal allowance. The key message here is to have pension income in both of the names of a couple.
It is also important to note that, for higher earners, the personal allowance is reduced by £1 for every £2 of taxable income above £100,000. This means the allowance is £0 if taxable income is £122,000 or more.
The savings rate of tax
The savings rate of tax is 0 per cent and applies to savings income up to £5,000, providing total taxable income (including interest) is less than £16,000 a year. This is in addition to the personal savings allowance, combining to make a potential total of £17,000 tax-free income a year.
Personal savings allowance
A revolution in cash savings will see all cash accounts pay interest without tax deducted and a new personal savings allowance introduced, in addition to the personal allowance. Basic-rate taxpayers will be able to receive £1,000 of interest from cash deposits without paying tax. Higher-rate taxpayers will be able to receive £500 of interest, while additional-rate taxpayers will not have a personal savings allowance.