Tax Efficient Savings For High-Earning Savers
Rising interest rates and falling bond prices mean high-earning savers can benefit from the tax treatment of short-dated government bonds for the first time in more than a decade.
Written by Patryk Dyjecinski

IFA and Founder of Clara Wealth

Rising interest rates and falling bond prices mean high-earning savers can benefit from the tax treatment of short-dated government bonds for the first time in more than a decade. A gilt’s yield— which includes both the coupon rate paid by a bond and the difference between its price and its value at maturity — has become increasingly attractive. As I write this, 1-year and 2-year gilt yields are just above 5%.

It is possible to realise most of this yield tax free under the current rules by purchasing very low-coupon (interest) paying gilts. The tax advantage for bondholders is that while income tax is payable on the coupon, no tax is paid on the capital increase between the purchase and sale price — or its maturity value — regardless of the bondholder’s tax band. The discounts on short-dated bonds with a low coupon value therefore offer the most attractive tax advantages. 

While a 5% return on over 1 year is lower than the best available savings rates, when tax has to be paid, the gilt becomes more attractive, particularly for higher and additional rate taxpayers. Using a 5% yield as an example, if the whole return was tax free the pre-tax returns on savings to match this return would have to be 8.3% for a higher-rate taxpayer and 9.1% for an additional rate taxpayer! Given that only 0.25% of the return is from a taxable coupon payment, the vast majority of the return would be free of tax. 

Unlike ISAs, there is virtually no limit to the size of the investment and of course as gilts are issued by the UK government, they are as safe as FSCS backed deposits or NS&I savings. However, it is important to remember that the value of a gilt can go down as well as up. So, if you sell the bond before maturity, you could end up making a loss. There are also investment platform and advice costs to consider.

There is a variety of maturities of these low coupon gilts that can be purchased depending on the time frame required. Some examples of the current gilts ‘in issue’ are:

1) 0.125% coupon, 31/01/2024 maturity
2) 0.25% coupon , 31/01/2025 maturity
3) 0.125% coupon, 30/01/2026 maturity
4) 0.125% coupon, 31/01/2028 maturity and so on…

This has been covered in the press recently. For example:
https://www.ft.com/content/e2b51daf-3a5c-4366-aa1b-a5582185e4de
https://www.telegraph.co.uk/investing/bonds/trick-higher-earners-66-per-cent-yield-government-bonds/

Please get in touch at contact@clarawealth.co.uk or on 0207 097 4968 if you wish to discuss your investments or have any other questions.

This blog is for information purposes and does not constitute financial advice, which should be based on your individual circumstances.
The information and guidance provided within this website/blog/script/guideis subject to the UK regulatory regime and is therefore primarily targeted at consumers based in the UK.
The taxation of the investment is dependent on the individual circumstance of each investor, and may be subject to change in the future.