Earlier this month George Osborne, Chancellor for the current UK Government, announced changes to taxation, savings and pensions in the UK Budget 2015. We explore these changes and discuss how it will change our personal finances.
Change 1: Tax-free personal allowance increase
The tax-free allowance is the amount of income you can earn without being taxed. Once you reach the limit, you will be taxed 20% on the next £31,865 that you earn and then 40% on the next £31,866 - £150,000. Any income earned above this will be taxed at 45%. Knowing what the tax-free personal allowance is can be helpful for part-time workers as they can consider whether it's worth working more hours to earn above the tax-free limit or whether they can cut back to reduce their tax liability.
The tax-free personal allowance increase will take effect gradually over the next three tax years:
From April 2015 - March 2016: £600 increase to £10,600 (and an increase of just £100 for those born before 1948)
From April 2016 - March 2017: £200 increase to £10,800
From April 2017 - March 2018: £200 increase to £11,000
This change is hardly anything to rave about given the amount usually increases in line with inflation. However, just this month the rate of inflation dropped to 0%. 0% inflation means that a basket of general goods that cost £100 in February 2014 would still cost just £100 in February 2015. Other items such as petrol and food are lower than they were a year ago and similarly other items are more expensive e.g. clothing and rent. Given rent or mortgage repayments are most often the biggest expense, 0% inflation has very little effect in terms of maintaining our power to spend. That said this change will take effect without you having to do anything, so it's hardly going to change the way you manage your money.
Change 2: New personal savings allowance
The introduction of a personal savings allowance will allow savers to earn interest on their savings tax-free up to a limit. So, as well as not paying tax on the first £10,600 of their income, savers can also earn interest on their savings without paying tax on the first £1,000. If you earn between £42,701 and £150,000, then the limit is lower at £500. Every pound earned in interest above your limit will be taxed at 20% or 40% depending on which tax band you fall into. Tax bands table.
When? The personal savings allowance will come into effect in April 2016. Banks and building societies will stop automatically taking 20% in income tax from the interest earned outside of ISAs.
If you don't have a lot of savings outside of your ISA(s) then you will benefit from not paying tax on any of the interest that you earn. If you received an interest rate of 3% on your savings account, you'd need to have at least £34,000 in that account to start being taxed on your interest. If you currently direct your savings towards your ISA as a priority it would be worth reviewing whether this is still the most tax-effective way to save. Given the rates of cash ISAs have dropped in the last few years, it's likely that saving your money via a current or savings account with a higher rate of interest will be more tax-effective when taking into consideration the new personal savings allowance. If you hold a stocks and shares ISA your money invested in stocks or bonds which earns you £11,000 a year (the tax free amount of interest that you can earn on stocks and shares before being charged capital gains tax), it will likely still be most tax-effective to save through this. If you earn less than £11,000 a year in interest on your stocks and shares ISA, then diverting some of your savings towards traditional bank accounts may help to diversify your portfolio whilst remaining tax-efficient.
Change 3: Help to Buy ISA
To help you save for a deposit on your first property in the UK, the Government is offering to boost what you save by 25%. You can save up to £200 per month using the scheme and when you are ready to buy, the Government will add £50 for every month that you saved up to a maximum of £3,000. You can open the account with £1,000 and receive a £250 bonus on top. If you save for the entire period that the Government is offering a bonus and you start with the £1,000 lump sum, you will have a total of £16,250 in five years plus any interest earned on the account. You can continue to save after that period, but you will not receive any bonuses. You receive the bonus once you are ready to purchase the property. Should you decide not to buy a property you will not receive the bonus but your savings will still have accrued interest as set by the bank. Saving for a deposit using this scheme essentially lets basic tax-rate payers to save from their gross income (income before tax).
From autumn 2015, so likely around September, you will be able to open a Help to Buy ISA. The account will be available for the next four years so if you choose to, you can open it just before autumn 2019.
It's hard to make a verdict on this ISA until we see what interest rates are offered. It's unlikely that they'll be mind-blowing, so saving into a stocks and shares ISA where your savings are more exposed to risk, but also able to earn a higher return, may still be a better approach especially if you're saving over a period of five years. That said, it's hard to know how much house prices will rise over that time. Currently the savings can be used for a deposit on a house in London with a maximum £450,000 pricetag or on a house outside of London with a maximum £250,000 pricetag. With house prices on all properties across the UK rising at around 6-7% and 15% on flats in London, a £15,000 deposit will hardly suffice for an affordable mortgage.
Bottom line? Save aggressively and for a long time and you may accumulate enough to buy your first property. Or find a way to diversify your income streams to help you increase your income. There's a limit to how much you can save, whereas your income is limited only by your effort. Use the tax breaks provided by the Budget 2015 to make your earnings and savings as tax efficient as possible.
All information provided at Life-Life Balance is for informational purposes only. MM is not a qualified financial advisor. Before making any decisions on your finances you should seek advice from a qualified advisor.
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