Putting your money with your morals could trigger a tax conundrum - Gareth Shaw

Q I saw you on TV this week talking about the new National Savings and Investment bond and that you could end up paying tax on it? Could you please explain to me why that is the case?

The new Green Savings Bond will help tackle climate change and hope to reduce extreme weather events like flooding in Sheffield in 2007

A The product I was referring to is being described as a ‘world first’ - it’s a savings account in which your money is used by the government to fight climate change and support its ambitions to reduce carbon emissions. It’s called the Green Savings Bond.

Your investments will go to HM Treasury, and will be spent across six ‘green’ projects: making transport cleaner, switching to renewable energy, improving energy efficiency, pollution prevention and control, protecting living and natural resources, and adapting to climate change.

The bonds will be available to anyone over the age of 16, and you’ll be able to invest anything between £100 and £100,000. You’ll only be able to access them online, so if this is something you’d be interested in, you need to be comfortable opening and operating your account this way.

We don’t know the rate yet, or the exact launch date, but the expectation is that the bond will pay a higher rate than what’s on offer from similar savings accounts (around 1.26 per cent AER at the moment). We expect to see more details later in the year.

So let’s get into your query. The bonds will be three-year fixed-rate accounts, and you will not be able to make withdrawals from the account during that period. Interest will accrue daily, and will be added to your account on an annual basis. But, crucially, the interest will not be accessible until the bond matures after three years.

This means you’ll get three years’ worth of interest at the end of the term. And getting all of your interest as a lump sum could, potentially, trigger a tax bill and some administration for you to deal with. Tax is payable in the year you receive the interest.

Most people get a ‘personal savings allowance’, an amount of savings interest they can earn each year before they pay income tax. If you’re a basic-rate taxpayer, you can earn £1,000 in a year before paying tax; higher-rate taxpayers can earn £500 a year. Additional-rate taxpayers do not get a personal savings allowance at all.

Let’s say the Green Savings Bond pays three per cent AER and you invest £15,000. If interest was paid annually, neither basic rate nor higher rate taxpayers would need to worry about tax, as the amount of interest (£450) would not exceed the personal savings allowance.

But paid as a lump sum, you’d generate £1,390 at the end of the three year term, because of the way the interest is compounded. This means you would have to pay some tax on your interest. In this example, the amount payable is £78, but the more you invest, the higher potential bill.

There are further implications. Savings interest is considered to be part of your overall income, and is added to your income from earnings and pensions for tax purposes. If you earn a significant amount of interest in a single year or your other income is close to a higher threshold, this could tip you into a higher tax band.

If your savings income pushed you from the basic-rate to the higher-rate tax band, it would make you a higher-rate taxpayer. This would reduce the amount of personal savings allowance you’re entitled to, and have a knock-on effect on other taxes where rates are based on your income tax band, such as capital gains tax and dividend tax. Of course, until we know the rate and how much you’re considering investing, this is all theoretical. And with such an investment, which sees your savings spent with purpose, perhaps you’ll be happy to face a tax conundrum to put your money with your morals.

Gareth Shaw is the Head of Money at which.co.uk