A Budget for Savers
George Osborne presented the last Budget of the current coalition government on 18th March 2015.
What did he announce and what does it mean for savers?
A new tax free allowance on savings income
From April 2016, basic rate taxpayers won’t pay tax on the first £1,000 of interest received from money in a bank or building society account. Higher rate taxpayers will be allowed to earn £500 a year in bank or building society account interest, also from April 2016, without paying tax.
Example 1 Earn £20,000 income a year + £250 in interest
From April 2016 you won’t have to pay tax on your interest as it is within your £1,000 Personal Savings Allowance.
Example 2 Earn £20,000 income a year +£1,500 in interest
You won’t need to pay any tax on your interest up to £1,000, but you will still need to pay tax on the £500 interest you have earned over your Personal Savings Allowance.
Example 3 Earn £60,000 income a year +£250 in interest
You won’t have to pay tax on your interest as it is within your £500 Personal Savings Allowance.
Example 4 Earn £60,000 income a year + £1,100 in interest
As a higher rate tax payer you won’t have to pay tax on your interest up to £500, but you will still need to pay tax on the £600 interest you have earned over your Personal Savings Allowance.
At the best rate of 1.35% (Source: Moneysupermarket), this means a basic rate taxpayer can invest almost £75,000 in an instant access savings account without paying tax on their savings. A higher rate taxpayer could hold about £37,000 in the best instant access savings account without paying tax.
Given that most people have cash savings of less than £75,000, does this make cash ISAs irrelevant in the future?
The best instant access cash ISAs still pay a little bit more interest than a normal instant access savings account so people may still prefer ISAs for this reason. And, if interest rates go up in future, the amount that can be sheltered tax-free in a normal savings bank or building society account using the new £1,000 or £500 Personal Savings Allowance will come down.
Savers might also decide to use a normal deposit account (either instant access or fixed term) as a place to hold cash and keep their ISA allowance for stocks and shares investments.
Making ISAs more flexible
Savers will be able to withdraw and replace money from their cash ISA within the same tax-year without it counting towards their annual ISA subscription limit. The changes are planned to come into force in Autumn 2015.
Joe has £30,000 in his cash ISA that he has built up over a number of years. On the 25th of November 2015 (in the 2015/16 tax-year), Joe withdraws his £30,000 savings to pay for a new conservatory for his home. In February 2016, Joe receives a £50,000 lump sum from his pension and wants to reinvest this tax efficiently.
As he is no longer earning, the most he can put into his pension in each tax year with tax relief is £3,600 (£2,880 net of tax relief).
However, the new ISA rules will allow him to use £30,000 of his pension lump sum to replenish the £30,000 he took out of his cash ISA in November 2015. He must do this before 6th April 2016.
In addition, assuming he has not used his normal ISA allowance for the 2015/16 tax year, Joe can put another £15,240 into his ISA before 6th April 2016.
In total, Joe can put £45,240 of his pension lump sum back into an ISA (£30,000 in a cash ISA and the other £15,240 in either a cash or stocks and shares ISA) and, assuming he is under 75, £2,880 into a pension. This means that Joe can reinvest most of his lump sum tax efficiently.
This is a useful new allowance for people that need access to their cash savings but will be able to replenish the money they take out within a short period.
Pensions lifetime allowance reduced to £1m
From April 2016, the maximum amount that pension savers will be able to get out of their pension will reduce from £1.25m to £1m.
HMRC will be consulting on introducing protection for those who already have pension benefits valued at more than £1m on 5 April 2016 or who expect to exceed the lifetime allowance when they take retirement benefits. These protections are expected to mirror those put into place when the Lifetime Allowance reduced from £1.5m to £1.25m in April 2014 and may require people to stop paying into their pension.
From 6th April 2018, the lifetime allowance will be indexed in line with CPI.
Claire is 45-years-old and plans to retire at age 60. Her pension fund is currently worth £500,000.
Assuming that Claire’s pension fund grows at 7% a year (after charges) and the lifetime allowance grows in line with the government’s CPI target of 2% a year from 2018, by 2030 (when Claire is 60), the value of her pension fund and the lifetime allowance will be as follows:
Claire’s pension fund £1,380,000
Lifetime pension allowance £1,268,000
This means that Claire’s fund exceeds the allowance by about £112,000. She will have to pay 55% tax on this excess.
£1m might sound like a lot of money but it would only buy a guaranteed lifetime CPI-linked income of about £27,000 for a 65-year-old assuming the pension was paid at half that level to their spouse on death and guaranteed at the original level, regardless of whether the buyer was alive or not for 10 years (Source: Money Advice Service).
Also, as the example above illustrates, the limit is measured at retirement meaning that savers need to think about what their fund and the limit will be when they take their money out rather than the value today.
Savers who are uncertain whether they should pay more money into their pension or opt for the current allowance instead, should consult a regulated financial adviser.
Help to Buy ISA
New Help to Buy ISA accounts will be made available from autumn 2015. These are aimed at first-time house buyers saving for a deposit and are available to each individual aged over 16. That means a couple buying their first home together can combine two allowances. However, only one account per individual can be opened.
Accounts can be opened with an initial deposit of up to £1,000 and monthly savings of up to £200 can be made.
A bonus of 25% of the amount saved will be added by the government with a minimum bonus of £400 (minimum amount saved £1,600) and a maximum bonus of £3,000 (maximum amount saved £12,000) and will be paid when the saver(s) buy their first home.
The bonus will only be available on home purchases of up to £450,000 in London and up to £250,000 outside London.
Josh and Emma are planning to buy their first home together but need to save a deposit first.
Josh opens a Help to Buy ISA account and puts £1,000 into the account and saves £100 a month for 2 years (£2,400), giving a total amount saved of £3,400.
Emma saves £1,000 initially and the maximum £200 a month for 2 years (£4,800) into a Help to Buy ISA, giving a total amount saved of £5,800.
Josh and Emma decide to take their savings out of their Help to Buy ISA to buy their first home costing £150,000. Josh will receive a bonus of £850 and Emma will receive a bonus of £1,450.
Adding all the money saved and the bonuses together gives Josh and Emma £11,500 (excluding any interest earned o their accounts) to put towards the purchase price of their first home.
This is good news for first time buyers who have found it increasingly hard to get onto the first rung of the housing ladder.
Selling your annuity
The government also published a consultation on whether people should be allowed to sell their annuity to a third party from April 2016. Under government proposals, your current annuity provider will have to agree to you selling your annuity and it’s unlikely they will be allowed to buy it back from you; rather you will assign your income to a buyer who will pay you a capital sum in return.
Currently, people who have bought an annuity are unable to sell it without having to pay at least 55% tax on it. From April 2016, the government plans to change the tax rules so that people who already have income from an annuity can sell that and pay their marginal rate of tax on the proceeds rather than 55%. People who sell their annuities will be allowed to invest the proceeds in another form of pension income product to avoid being taxed immediately.
Geoff has an annuity which pays him £5,000 a year. He decides to assign the income from this annuity in return for a lump sum of £45,000. He places the proceeds in a self-invested personal pension and withdraws £7,000 a year. Geoff will only be taxed at his marginal tax rate on the £7,000 withdrawals he makes.
The right to sell annuity income is subject to a government consultation, so it is too early to detail exactly how this will work. It won’t be available until 2016 and even then, only if there are buyers prepared to buy your annuity income from you.