‘Stealth inheritance tax’ to hit savers – how to protect yourself

Savers face paying hundreds of pounds more to HMRC from April in a move that experts are dubbing an “inheritance tax increase by the backdoor.” From April, the tax rates savers pay on interest earned will rise by 4 percentage points after a Budget raid announced by Chancellor John Healey on Wednesday. Savers can protect money by putting it into ISAs, where interest is tax-free, but the allowance is only £20,000 annually. Those who inherit sums over £20,000 who want to put their cash into savings are likely to be affected by the tax increase. Shorts The tax rise will raise revenue for the government and could also push some savers to invest their money instead of putting it into cash. Labour has a limited number of levers it can pull to raise taxes, because it promised in its 2024 general election manifesto not to raise taxes on working people. Increasing tax rates on savers – whose are gaining money via interest rather than work – can be seen as a way around breaking the pledge. Savers have an allowance for an amount of interest they can earn tax-free before income tax applies, which can be seen below. As an example of how the tax rise will work, a basic rate taxpayer who inherits £80,000 and puts £20,000 into a cash ISA, with the rest going into a savings account paying 5 per cent, will make £3,000 in interest. They would currently pay 20 per cent tax on £2,000 of this, which is £400, but they will pay £440 from next tax year, starting in April. An additional rate tax payer who inherited this amount of cash would pay tax on the full £3,000. That means they would pay £1,350 currently but £1,470 from next year – £120 more. Nimesh Shah, CEO of accountancy firm Blick Rothenberg said: “It’s an inheritance tax increase by the backdoor as people receiving large sums will generate interest income which will see a tax increase of 4 percentage points.” People who end up facing the tax on their interest after receiving a lump sum from a family member may already have paid inheritance tax, which is charged at a rate of 40 per cent on estates over £325,000, with several other extra allowances for married couples and homeowners. Other financial experts warned other groups would also be disproportionately affected by the tax increase. Jason Hollands, managing director at Evelyn Partners, added: “It will clobber a lot of people with sizeable cash balances, especially those who might have sold a business or a property, as well as people who are simply very cautious and hoard cash rather than invest.” Laura Suter, director of personal finance at investment platform AJ Bell said many pensioners could also be hit, “as many will sit on cash to spend during retirement”. Rates were already due to rise by 2 percentage points under changes announced by ex-chancellor Rachel Reeves, but these increases will now be doubled. The government has said it expects half the increase in tax paid for both the savings tax increases – and a separate increase to property taxes – to come from the top 10 per cent of households, while it says 84 per cent of income taxpayers won’t be affected by the hike. How can you protect yourself from the savings tax rise? There are ways you can shield yourself from a rise in savings tax. Your first option is to use your ISA wrapper. Money put into ISAs is free from tax on interest. You could also consider using premium bonds. These are a UK government-backed savings product Instead of paying regular interest, your money is entered into a monthly tax-free prize draw, and you can put £50,000 into them a year. Suter said: “While cash ISAs will be king for anyone wanting to keep their money in cash and protect it from the rising tax tide, it’s understandable that premium bonds may become more attractive for those higher earners who have already maxed out their ISA allowance and are willing to take the gamble. “Some wealthier savers may decide to take their chances with Premium Bonds. While there are no guaranteed prizes with Premium Bonds, the lure of tax-free prizes and potentially high winnings become more attractive.” Experts also say that you can consider alternatives to cash for your money. Isabella Galliers-Pratt, senior investment director at Rathbones, said: “Cash will always have an important role in providing liquidity, but the tax changes significantly alter the equation for money held beyond immediate needs. “For money that is not needed immediately, investors may want to look more closely at alternatives, including short-dated, low-coupon gilts.” These are essentially bundles of government debt. You can often buy them for less than their face value price on trading platforms and they pay a small amount of interest – known as a coupon. The government then pays back the gilt’s full face value when it matures. While the coupon is subject to income tax, any capital gain on the gilt – the difference between the price you pay for it and the price you get back from the government – is generally free from capital gains tax (CGT) for individual investors.