Income Tax is worked out in a fixed order: non savings income such as wages, pensions, profits and rent is taxed first, savings income sits on top of it, and dividend income sits on top of everything. Section 16 of the Income Tax Act 2007 sets this order. Because the tax bands fill from the bottom up, the order decides whether each pound of interest or dividends falls in the starting rate band, the basic rate band or the higher rate band.

What counts as savings income and dividend income?

The Income Tax Act 2007 splits income into three categories for this purpose.

  • Savings income (section 18): interest, the income element of purchased life annuity payments, profits on deeply discounted securities, accrued income profits and gains on life insurance contracts.
  • Dividend income (section 19): dividends from UK and non UK resident companies, stock dividends, and a loan to a participator in a close company that is released or written off.
  • Non savings income: everything else, including employment income, pensions, trading profits and property income.

Each category has its own rates. For 2026 to 2027, in England, Wales and Northern Ireland, non savings income is taxed at 20%, 40% and 45%. Savings income uses the same rates, but with a starting rate for savings of 0% on up to £5,000 and the Personal Savings Allowance on top. Dividends are taxed at 10.75%, 35.75% and 39.35%, with the first £500 taxed at 0%.

What order does the law use?

Section 16 of the Income Tax Act 2007 gives three rules:

  • if you have savings income but no dividend income, the savings income is treated as the highest part of your total income (section 16(3));
  • if you have dividend income but no savings income, the dividends are the highest part (section 16(4));
  • if you have both, savings and dividends together are the highest part, and the dividends are the higher part of that slice (section 16(5)).

So the stack, from the bottom, is non savings income, then savings income, then dividend income. Section 16(2) applies the order for all income tax purposes except top slicing relief on life insurance gains under sections 535 to 537 of the Income Tax (Trading and Other Income) Act 2005, which has its own method.

The bands then fill from the bottom. For 2026 to 2027 the basic rate band covers the first £37,700 of taxable income after the Personal Allowance, and the higher rate band runs from £37,701 to £125,140. Non savings income uses the basic rate band first, savings income uses what is left, and dividends get whatever remains.

Why does the order change the rate on each pound?

Because dividends sit at the top, they are the income most likely to spill into the higher rate band. Interest sits underneath and is more likely to stay in the basic rate band or the starting rate band. Several consequences follow.

  • The starting rate for savings depends on your other income. Section 12 charges 0% only on savings income within the first £5,000 of taxable income. Every £1 of non savings income above the Personal Allowance uses £1 of that band, so it is gone once other taxable income reaches £17,570.
  • Dividends never get the starting rate. Section 12 applies only to savings income, so a dividend falling within the first £5,000 of taxable income is still taxed at the dividend rates.
  • The nil rate amounts still use up band. Sections 12A and 13A tax interest within the Personal Savings Allowance and dividends within the £500 dividend allowance at 0% “rather than” the normal rate. They are rates, not deductions, so the income they cover still occupies band and can push later income into a higher band.
  • The Personal Savings Allowance looks at your whole income. Under section 12B it is £1,000 if none of your income is higher rate income, £500 if any is, and nil if any is additional rate income. A dividend at the top of the stack that crosses the basic rate limit halves the allowance on interest lower down.

How does the order work for a pensioner with savings?

Illustration only. Margaret lives in England. In 2026 to 2027 she has pension income of £14,000 and bank interest of £4,000.

  1. Her Personal Allowance of £12,570 covers the first £12,570 of pension, because non savings income is at the bottom of the stack.
  2. The remaining £1,430 of pension is taxed at 20%, which is £286. It also uses £1,430 of the £5,000 starting rate band, leaving £3,570.
  3. The first £3,570 of interest is taxed at the 0% starting rate for savings.
  4. The remaining £430 of interest falls within her £1,000 Personal Savings Allowance and is also taxed at 0%.

Her total tax is £286 and none of it is on her interest. HMRC’s own example works the same way: wages of £16,000 use £3,430 of the starting rate band, leaving £1,570 for interest. More on the allowance itself is in tax on savings interest and the Personal Savings Allowance.

How does it work with salary, interest and dividends together?

Illustration only. Daniel lives in England. In 2026 to 2027 he has a salary of £42,370, bank interest of £1,000 and dividends of £10,500, so his total income is £53,870. His Personal Allowance of £12,570 comes off his salary.

Slice of income Amount Position in taxable income Rate Tax
Salary after Personal Allowance £29,800 £0 to £29,800 20% £5,960
Interest within Personal Savings Allowance £500 £29,800 to £30,300 0% £0
Interest above the allowance £500 £30,300 to £30,800 20% £100
Dividends within the dividend allowance £500 £30,800 to £31,300 0% £0
Dividends in the basic rate band £6,400 £31,300 to £37,700 10.75% £688
Dividends in the higher rate band £3,600 £37,700 to £41,300 35.75% £1,287
Total £41,300 £8,035

Because dividends are stacked last, the whole £3,600 that crosses the basic rate limit is dividend income, while all his interest stays in the basic rate band. His Personal Savings Allowance is £500 rather than £1,000 because some of his income, the top slice of dividends, is higher rate income. He gets no starting rate for savings because his salary alone uses the first £5,000 of taxable income. The choice between salary and dividends for company owners is covered in salary vs dividends, and the dividend rates in dividend allowance and tax rates.

Can the Personal Allowance be set against dividends instead?

For 2026 to 2027, yes, where it helps. Section 25(2) of the Income Tax Act 2007 requires reliefs and allowances deducted at Steps 2 and 3 of the tax calculation to be deducted “in the way which will result in the greatest reduction” in your liability. Usually that means against non savings income, but someone living mainly on savings and dividends can be better off with the allowance set against dividends, so that interest sits in the starting rate band.

Illustration only. Alice has interest of £5,000, dividends of £19,870 and no other income. With her Personal Allowance set against dividends, all £5,000 of interest falls in the starting rate band at 0%. Her remaining dividends of £7,300 are taxed as £500 at 0% and £6,800 at 10.75%, which is £731. Had the allowance been used against the interest first, £5,000 more of her dividends would have been taxable at 10.75%, costing an extra £537.50.

What changes from April 2027?

The government has announced that savings income rates will rise by 2 percentage points across all bands from April 2027, and that separate property income rates of 22%, 42% and 47% will apply from 2027 to 2028. The dividend ordinary and upper rates already rose by 2 percentage points from April 2026, while the dividend additional rate stayed at 39.35%.

The Finance Act 2026 also changes the stack itself for 2027 to 2028 onwards:

  • new section 16A places property income immediately below savings income, or immediately below dividends if there is no savings income, and at the top if there is neither;
  • new section 25(3A) requires reliefs and allowances at Steps 2 and 3 to be deducted from other income before property, savings or dividend income, so the flexibility used in Alice’s example ends.

How does this apply to Scottish taxpayers?

Scottish rates and bands apply only to non savings income. HMRC’s guidance confirms that savings and dividend income of a Scottish taxpayer is taxed using the rates and bands that apply in England and Northern Ireland. Sections 11D(6) and 13(5) achieve this by asking which rate would apply if the person were not a Scottish taxpayer, and section 16(1)(za) uses the same stacking order to decide which part of a Scottish taxpayer’s income is savings income. In practice Scottish bands place wages, pensions and profits, and the UK basic rate limit places the interest and dividends on top. See Scottish income tax.

What mistakes are common?

  • Treating the dividend allowance or Personal Savings Allowance as a deduction that frees up band, rather than a 0% rate on income that still uses band.
  • Assuming everyone with interest gets the starting rate for savings. It only helps where non savings taxable income is under £5,000.
  • Forgetting that a dividend which tips income into the higher rate band also cuts the Personal Savings Allowance from £1,000 to £500.
  • Applying Scottish bands to savings and dividends.
  • Forgetting tax exempt income. ISA income and some NS&I products sit outside the stack entirely, as explained in NS&I products and tax.

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Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.