Compensated for PPI mis-selling and then taxed

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Interest on compensation payment and then tax

The compensation being paid by banks and financial institutions for the mis-selling of payment protection insurance is to include interest. Interest is calculated at 8 per cent simple interest. Payment of interst is part of the agreement between the sellers and the Financial Services Authority.

Why 8 per cent interest?

This is the interest rate used by Courts when ordering interest on money owed and is known as the statutory rate. Interest is awarded to compensate you for being deprived of your money.

Insurance Guardian found a good explanation for a similar situation from the Financial Ombudsman Service:

“We usually tell businesses to pay interest at the statutory rate, which is currently 8% simple. When this relates to a period before 1 April 1993, we take into account the fact that the statutory rate was 15% simple at that time.

We use the statutory rate to reflect the fact that:

  • the rate is gross before tax is deducted;
  • it applies to historic losses at times when different base rates applied;
  • it takes account of current interest rates being charged on overdrafts and loans – which have not reduced in line with the base rate.

The courts have not changed the equivalent interest rates that they apply. So there does not appear to be a case for changing this rate at present.”

The usual practice is for tax to be deducted by the financial institution paying you the interest. I believe tax will not be deducted if you have signed a form R85 telling them you are not a tax payer, but otherwise tax will be deducted at the basic rate. If you are a higher rate tax payer then you should let the Revenue know by letter, or in your tax return. I think most compensation payments will be made after tax is deducted, but check carefully to avoid trouble with the tax man.

tax on interest swings_and_roundabouts

Disappointed?

You are to be paid compensation which is good news, and the news probably came as a pleasant surprise. You then get interest on top, but have to pay tax on that interest. You could say 8 per cent is a very good rate, and even after tax it is more than you would have got on a deposit account. So maybe not too disappointed overall?

There was a very balanced report on the BBC’s Money Box programme today. You could listen to the podcast.

Back in 2004 mis-selling of endowment insurance policies was big news. Tax was charged on any interest added to the compensation. The Telegraph wrote about the tough approach of the Revenue.

Let Insurance Guardian know your experiences of this PPI compensation roller coaster, and then look out for the next generation of insurance products.