Savers will be up to £1,200 worse-off after five years once cash ISA reforms and new savings taxes are introduced, research suggests.
Chancellor Rachel Reeves used her Autumn Budget this week to reveal plans to cut the cash ISA allowance to £12,000 from April 2027 while also introducing a new income tax rate on savings of 22% for basic rate taxpayers and 42% for higher earners from the next tax year.
MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Analysis by InvestEngine found that of the 7.1 million who contribute to cash ISA in 2022/2023, 2 million saved more than £12,000.
The impact of cash ISA cuts and savings income tax hikes
InvestEngine’s analysis found that almost 1.5 million basic-rate taxpayers and 462,00 higher-rate taxpayers deposited more than £12,000 into their cash ISA in the previous financial year
But it won’t take much for the taxman to come knocking if cash ISA savers divert their money into savings accounts instead.
A basic rate taxpayer will see the income tax on savings rise to 22% from April 2027.
They still have a personal savings allowance of £1,000.
But if they put £8,000 into a savings account each year, earning the current typical rate of 4.5%, the personal savings allowance would be breached after the third year and they will have paid £264 of tax after five years.
Year | Total held outside ISA | Annual interest (4.5%) | Taxable interest (beyond £1,000) | Tax due (22%) | Cumulative tax paid |
1 | £8,000 | £360 | £0 | £0 | £0 |
2 | £16,000 | £720 | £0 | £0 | £0 |
3 | £24,000 | £1,080 | £80 | £18 | £17 |
4 | £32,000 | £1,440 | £440 | £97 | £114 |
5 | £40,000 | £1,800 | £800 | £176 | £290 |
It is worse for higher earners, who will face a 42% savings income tax rate and already have a reduced personal savings allowance of £500.
Higher earners saving £8,000 per year at 4.5% would breach the allowance after just two years and face paying £1,216 in tax after five years.
Andrew Prosser, head of investments at InvestEngine, said: “Our analysis shows that millions of savers regularly deposit more than £12,000 a year into cash ISAs.
"This cut to the allowance could push many into paying unnecessary tax on their savings interest."
Year | Total held outside ISA | Annual interest (4.5%) | Taxable interest (beyond £500) | Tax due (42%) | Cumulative tax paid |
1 | £8,000 | £360 | £0 | £0 | £0 |
2 | £16,000 | £720 | £220 | £92 | £92 |
3 | £24,000 | £1,080 | £580 | £244 | £336 |
4 | £32,000 | £1,440 | £940 | £395 | £731 |
5 | £40,000 | £1,800 | £1,300 | £546 | £1,277 |
How to beat the cash ISA cut
The easiest way for savers to avoid a new tax bill is by investing instead in a stocks and shares ISA.
Prosser added: “While the cut is undoubtedly a blow for those who were planning to save more than £12,000 into a cash ISA, now is a good opportunity for those who have not invested before to consider it as a way of reaching their financial goals.
“By shifting part of their allowance - anything over £12,000 - into a stocks and shares ISA, savers can preserve the tax benefits of the full £20,000 limit while giving their money a chance to benefit from inflation-beating growth.”
That may be easier said than done though, especially if you are uncertain about financial markets.
Nottingham Building Society found only 38% of cash ISA holders nationwide would consider switching to a stocks and shares ISA.
Harriet Guevara, chief saving officer at Nottingham Building Society, said: “Millions of savers rely on cash ISAs as a low-risk way to build financial stability. Two thirds of our cash ISA customers have used the full £20,000 allowance so far this year. These aren’t people with excess wealth - they’re individuals and families working hard to save for the future.
“What’s more, limiting cash ISA deposits is also at odds with this government’s own pledge to double the size of the mutuals sector, threatening to shrink mutual lending capacity, limit access to homeownership, and stall the long-term growth of building societies that reinvest in their members and local communities.
“If the government’s intention is to encourage more investment, these changes must go hand in hand with better financial education.”
-
No peace dividend in Trump's Russia-Ukraine peace planOpinion An end to fighting in Ukraine will hurt defence shares in the short term, but the boom is likely to continue given US isolationism, says Matthew Lynn
-
Saba strikes again at Edinburgh WorldwideThe activist investor, Saba, seems to be gearing up for a fresh attempt to displace the board of a UK investment trust.
