Some income is exempt from UK Income Tax altogether, such as returns inside an ISA, Premium Bond prizes, National Lottery wins, interest HMRC pays on a tax repayment and many state benefits. Other income is not exempt but is covered by an allowance, such as the Personal Allowance, the Personal Savings Allowance, the dividend allowance or the £1,000 trading and property allowances. The difference is important because exempt income is ignored completely, while income covered by an allowance can still affect your tax band and other calculations.
What is the difference between exempt income and income covered by an allowance?
Exempt income is removed from the tax calculation by law. Part 6 of the Income Tax (Trading and Other Income) Act 2005, headed Exempt Income, lists many examples, and HMRC’s Savings and Investment Manual at SAIM1120 describes these as types of income that are ignored for Income Tax purposes. Income from an ISA is simply left out of the calculation.
Income covered by an allowance is different. Interest within the Personal Savings Allowance or dividends within the dividend allowance are still part of your income: they are taxed at a 0% rate. HMRC’s guidance on savings interest says you add your interest to your other income to work out which band you are in, and the guidance on the High Income Child Benefit Charge confirms adjusted net income includes savings interest and dividends. So £800 of bank interest and £800 of ISA interest are both tax free for a basic rate taxpayer, but only the bank interest counts towards thresholds such as the one for the High Income Child Benefit Charge.
Which savings and investment income is exempt?
- ISAs. Interest, dividends and gains inside an Individual Savings Account are tax free. In 2026 to 2027 you can put up to £20,000 into ISAs. From 6 April 2027 the cash ISA limit for savers under 65 falls to £12,000 within the £20,000 overall limit. The detail is in ISA tax rules.
- National Savings and Investments. Interest on savings certificates is exempt under section 692 of the 2005 Act, and Premium Bond prizes are tax free. Other NS&I products are taxable; see NS&I products and tax.
- Save As You Earn. Interest and bonuses under a certified Save As You Earn contract are exempt under section 702.
- Venture capital trust dividends and income in a Child Trust Fund are exempt, according to SAIM1120.
Which other interest is exempt by statute?
Chapter 9 of Part 6 of the 2005 Act exempts several kinds of interest that people often assume are taxable:
- Interest HMRC pays on a tax repayment. Section 749 says no Income Tax liability arises on repayment interest or repayment supplements.
- Interest on personal injury damages. Section 751 exempts interest included in a court award of damages for personal injury or death, and SAIM2330 extends this to the interest element of an out of court settlement. Interest for the period after judgment is not covered.
- Interest on an over repaid student loan. SAIM2320 confirms this is not taxable under section 753.
Ordinary bank interest is not on this list. It is taxable, even if the Personal Savings Allowance means no tax is due; see the Personal Savings Allowance.
Which allowances make income tax free?
| Allowance | Amount for 2026 to 2027 | What it covers |
|---|---|---|
| Personal Allowance | £12,570, tapered above £100,000 | Any income |
| Starting rate for savings | Up to £5,000 | Interest, if other income is below £17,570 |
| Personal Savings Allowance | £1,000 basic rate, £500 higher rate | Interest |
| Dividend allowance | £500 | Dividends |
| Trading allowance | £1,000 | Self employment income |
| Property allowance | £1,000 | Rental income, unless using Rent a Room |
| Rent a Room Scheme | £7,500, or £3,750 if shared | Furnished accommodation in your own home |
The Rent a Room exemption is automatic if your receipts are under the threshold; see Rent a Room relief. The trading and property allowances are explained in the property income allowance.
Which state benefits are tax free?
Section 677 of the Income Tax (Earnings and Pensions) Act 2003 lists benefits that are wholly exempt. They include Universal Credit, Personal Independence Payment, Disability Living Allowance, Attendance Allowance, Pension Credit, Child Benefit and Maternity Allowance. Others, including the State Pension, Carer’s Allowance and New Style Jobseeker’s Allowance, are taxable. The full comparison, and how tax on taxable benefits is collected, is in which state benefits are taxable.
What income from work or pensions is tax free?
- Statutory redundancy pay under £30,000 is not taxable. Holiday pay, unpaid wages and bonuses paid on leaving are taxed in the normal way.
- Pension lump sums. You can usually take up to 25% of a pension pot tax free, subject to a maximum of £268,275 under the lump sum allowance.
- Some employee benefits and expenses, such as trivial benefits, are exempt if the conditions are met.
Are winnings taxable?
No. HMRC lists Premium Bond and National Lottery wins among the things you do not pay Income Tax on. Interest earned after you deposit winnings is taxable in the normal way, unless it is inside an ISA or another exempt product.
How does this work for a typical saver?
Illustration only. Chris earns a salary of £30,000 in 2026 to 2027. Chris also receives £700 of interest on an ISA, a £100 Premium Bond prize, £600 of bank interest and £400 of dividends from shares held outside an ISA.
- The ISA interest and the Premium Bond prize are exempt and left out entirely.
- The £600 of bank interest is within the £1,000 Personal Savings Allowance for a basic rate taxpayer, so it is taxed at 0%.
- The £400 of dividends is within the £500 dividend allowance, so it is also taxed at 0%.
- Total income for working out bands is £31,000: salary, bank interest and dividends. No tax is due on anything except the salary.
What mistakes are common?
- Treating allowance income as exempt. Interest within the Personal Savings Allowance still counts towards adjusted net income and can affect your band.
- Assuming all NS&I income is tax free. Only certain products, such as savings certificates and Premium Bonds, are exempt.
- Assuming a whole leaving package is tax free. Only statutory redundancy pay under £30,000 is exempt; contractual pay and holiday pay are taxed.
- Forgetting clawbacks. Child Benefit and Winter Fuel Payment are exempt, but separate charges can recover them from people with higher incomes.
- Missing the change in ISA limits. From 6 April 2027 savers under 65 can only put £12,000 a year into cash ISAs.
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Related Accountapedia entries
- How savings and dividend income stack on other income
- Tax on compensation and statutory interest payments
- Junior ISAs and tax on children’s savings
- Adjusted net income explained
- Getting money out of a property company
- Are gambling, betting and lottery winnings taxable
Sources
- GOV.UK: Income tax
- GOV.UK: Manual page SAIM1120
- GOV.UK: Manual page SAIM2300
- legislation.gov.uk: Act 2005 c. 5, section 749
- GOV.UK: Manual page SAIM2330
- GOV.UK: Manual page SAIM2320
- GOV.UK: Individual savings accounts
- GOV.UK: Change to tax rates for property savings and dividend income technical
- GOV.UK: Apply tax free interest on savings
- GOV.UK: Child benefit tax charge
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.