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HMRC internal manual

Savings and Investment Manual

Deduction of tax: local authorities

Obligation of local authorities to deduct tax from interest

The term ‘deposit taker’ includes a local authority, which may therefore be required to deduct tax under the Tax Deduction Scheme for Interest (TDSI) rules. A local authority includes a police authority. Local authorities may also be required to deduct tax from interest paid in other circumstances, mainly where the interest is ‘yearly interest’.

SAIM9020 explains that certain types of payment made by local authorities are not subject to the TDSI rules because they do not involve a deposit and hence are not a ‘relevant investment’.

Examples of payments by local authorities not within the TDSI rules

  • A police authority may confiscate money from arrested persons and hold onto that money while the case goes to court. Persons who are not charged or not found guilty will get their money back. Any interest payable on that money will not fall within TDSI.
  • It is the duty of the local social services authority to provide after-care services for certain persons who are detained under section 117 of the Mental Health Act 1983. Prior to the House of Lords hearing in 2002 that held such after-care services must be provided free of charge, certain local authorities may have charged for such services. If local authorities subsequently refund the sums and pay interest on such refunds, TDSI will not apply to the interest paid.
  • Where a local authority compulsorily acquires land, the owner is entitled to statutory compensation and statutory interest on such compensation from the date the acquiring authority became liable to pay the compensation. Again, there is no requirement under TDSI to deduct tax.
  • Where a local authority loses in litigation and has cost orders made against it by a court, the costs are subsequently assessed and these are paid to the receiving party together with interest. TDSI does not apply to such interest payments.

Deduction from certain payments of yearly interest

If TDSI does not apply (as in the four examples above), local authorities will need to consider whether the interest payable is ‘yearly interest’ falling under Chapter 3 Part 15 ITA 2007. For further information on yearly interest, refer to SAIM9070 onwards.