Introduction: Why Repayment Interest Matters to Americans in Britain
Repayment interest is the interest HMRC adds when it refunds tax you have overpaid, and for an American living in Britain it is one of the few items that each country treats in exactly the opposite way. In the UK, repayment interest is exempt from income tax. In the United States, however, it is ordinary taxable interest income on your federal return, and no UK tax sits behind it to credit. Furthermore, the refund it rides on is often the bigger problem, because a UK refund can reduce foreign tax credits you claimed years earlier. At TaxYork, we prepare US and UK returns side by side for bankers, partners, founders and investors. As a result, we see these refunds arrive every autumn, usually after a large bonus year has pushed payments on account far above the real bill. This guide explains how HMRC calculates repayment interest, why Britain leaves it untaxed, how the IRS taxes it, and what the underlying refund does to your Form 1116.
What Repayment Interest Actually Is
Put simply, repayment interest compensates you for the time HMRC held money it was not entitled to. HMRC's own guidance describes it as recompense for the loss of use of the overpaid money. It is simple interest, not compound interest. Moreover, HMRC never pays interest on interest, so the amount grows in a straight line from the start date to the day the refund is issued. The modern rules sit in section 102 of the Finance Act 2009, with the detail in Schedule 54. Older guides still use the phrase repayment supplement, which was the previous regime under the Income and Corporation Taxes Act. However, for Self Assessment income tax and capital gains tax today, the Finance Act 2009 language is the one that governs your refund.
Who Typically Receives It
In our experience, the clients who receive meaningful sums share a pattern. They had a year of unusually high income, often a bonus, a carried interest payout or a large dividend from their own company. Consequently, HMRC set their payments on account for the following year at half of that inflated bill each. When the following year turned out to be ordinary, the return showed a large overpayment. Similarly, Americans who leave Britain mid-year, or who claim treaty relief after paying tax in full, often end up with refunds. In each case, HMRC adds repayment interest automatically. You do not need to claim it separately.
How HMRC Calculates Repayment Interest
The repayment interest calculation has three moving parts: the rate, the start date and the end date. Each one is set by statute, so there is little room for negotiation. Nevertheless, the start date rules contain traps that change the answer by months.
The Rate: Base Rate Minus One Point
HMRC sets the rate at the Bank of England base rate minus one percentage point, with a floor of 0.5%. According to HMRC's published interest rates for late and early payments, the rate has been 2.75% since 9 January 2026, following the base rate cut to 3.75%. By contrast, late payment interest runs at 7.75%, because it is set at base rate plus four points. Therefore, HMRC charges you five percentage points more on money you owe than it pays on money it owes you. That spread is deliberate. In practice, it means that overpaying HMRC as a cautious buffer is an expensive way to hold cash.
The Start Date: Due Date, Not Payment Date
The start date is the later of the date you paid and the date the amount was due. The Compliance Handbook's worked examples at CH146060 show a taxpayer who paid two payments on account a few days early. Interest still ran only from the statutory due dates of 31 January and 31 July. Consequently, paying early earns no extra repayment interest. Additionally, where a return or claim creates an amount that was never actually paid, the start date is the later of the filing deadline and the date you filed. The day of the start date itself is excluded, so interest begins the following day and ends on the date HMRC issues the refund.
PAYE and Tax Deducted at Source
Tax deducted at source follows a special rule under Schedule 54, paragraph 6. HMRC's example at CH146260 shows that overpaid PAYE for a tax year carries a start date of 31 January after the end of that year. For instance, PAYE overpaid during 2024/25 starts earning interest only from 31 January 2026. This matters for executives whose employer over-deducted on a bonus. Specifically, the months between the deduction and the following January earn no repayment interest at all, however much was withheld.
Why Repayment Interest Is Tax-Free in Britain
Britain deliberately exempts repayment interest from income tax. The rule is short, and it is worth knowing precisely because many UK residents assume the opposite.
Section 749 of ITTOIA 2005
Section 749 of the Income Tax (Trading and Other Income) Act 2005 says that no liability to income tax arises on interest paid under section 102 of the Finance Act 2009. The same section exempts the older repayment supplements under the Income and Corporation Taxes Act and the capital gains tax supplement under TCGA section 283. HMRC confirms the point in its Savings and Investment Manual at SAIM2320, where the supplement is disregarded as income for all purposes. Accordingly, you do not enter repayment interest on your Self Assessment return, and it does not use up your personal savings allowance or your starting rate for savings.
The Exemption Does Not Reach Companies
The exemption covers individuals and other non-corporate taxpayers. A company is different. If your UK company receives repayment interest on a corporation tax refund, GOV.UK's page on getting a refund or interest on your Corporation Tax states plainly that the interest is taxable and belongs in the company tax return. It is taxed as a non-trading loan relationship credit. Furthermore, the rate differs: overpaid quarterly instalments earn 3.50% from 29 December 2025, while other corporation tax overpayments earn the standard 2.75%. For American owners of UK companies, that corporate repayment interest also reaches the US return through the controlled foreign corporation rules, which we cover below.
The Exemption Does Not Cover IRS Interest
The UK exemption applies only to interest under the UK statutes it names. It does not cover overpayment interest the IRS pays you on a US refund. Consequently, a UK-resident American who receives interest from the IRS faces UK income tax on it as foreign savings income, unless the four-year foreign income and gains regime shelters it in the first years after arrival. We return to the treaty position on that interest later, because it produces a surprising result.
How the IRS Taxes HMRC Repayment Interest
The United States taxes its citizens on worldwide income, and the British exemption has no effect on that. Therefore, every pound of repayment interest you receive belongs on your US return.
Ordinary Interest Income on Schedule B
The IRS treats the payment as interest under section 61, reported on Schedule B and Form 1040 like interest from any bank. The IRS Topic 403 guidance on interest received confirms that interest is taxable whether or not you receive a form reporting it. HMRC will never issue a Form 1099-INT for repayment interest, so the figure comes only from the refund notice or your HMRC online account. Moreover, you convert it to dollars at the exchange rate on the day you receive it, not at an annual average, because it is a single receipt. In our experience, this is the item most often left off self-prepared returns, simply because nothing prompts the filer to include it.
Foreign Source, Passive Category, No Credit
HMRC is not a US payer, so repayment interest is foreign-source income under section 862. Within the foreign tax credit system, interest falls into the passive category on Form 1116. However, Britain charged no tax on it, so there is no foreign tax attached to credit. The question then becomes whether other passive income carries enough excess UK tax to absorb the US liability. Often it does not. UK bank interest taxed at 40% or 45% can be lifted out of the passive basket by the high-tax kick-out rule, leaving the repayment interest alone with no credits to shelter it. As a result, the full US tax is frequently payable in cash.
The Net Investment Income Tax Adds 3.8%
Like any other interest, repayment interest counts as net investment income. Where your modified adjusted gross income exceeds $250,000 for joint filers or $200,000 for single filers, the net investment income tax adds 3.8% on top. The courts have repeatedly refused to let UK tax offset this surcharge under the treaty, and in this case there is no UK tax to offset anyway. Consequently, a top-rate American pays up to 40.8% federal tax on interest that Britain treats as entirely tax-free. For most of our clients, that is the headline number to remember.
The Bigger Issue: The Refund Itself
The repayment interest is usually modest. The refund it accompanies can be large, and the refund has its own consequences on the US side.
A UK Refund Is a Foreign Tax Redetermination
If you claimed a foreign tax credit for the UK tax HMRC has now refunded, the refund is a foreign tax redetermination under section 905(c) of the Internal Revenue Code. The regulations require you to notify the IRS, normally by amending the return for the year in which you claimed the credit, by the due date of the return for the year the refund arrives. Failing to do so invites a penalty of 5% of the resulting deficiency for each month of delay, up to 25%. Our detailed note on what happens when HMRC changes your bill after you have filed works through the mechanics, including Schedule C of Form 1116.
Why Payments on Account Cause the Problem
Cash-basis filers claim UK tax in the US year they pay it. Payments on account are UK tax paid, so they enter your Form 1116 in the calendar year of payment. If those instalments turn out to be excessive, the later refund unwinds part of a credit you have already used, carried forward or carried back. Our guide to payments on account and the bill Americans forget explains why a single bonus year can put 200% of a year's UK tax into one US calendar year. In practice, the amendment frequently changes only a carryover rather than the tax due, because UK rates already exceed US rates for most high earners. Nevertheless, the amended Form 1116 is still required, and the carryover schedule must be corrected.
Reducing Payments on Account Is Usually Better
The cleaner route is to avoid the overpayment in the first place. HMRC allows you to reduce your payments on account where you expect a lower bill. Reducing them too far costs late payment interest at 7.75% on the shortfall, which is why the calculation needs care. However, given the five-point spread and the US redetermination work a refund triggers, a well-judged reduction almost always beats waiting for HMRC to repay you with repayment interest at 2.75%.
When You Are Owed Interest by the IRS Instead
Many Americans in Britain receive refunds from both governments. The two payments look alike, but they are taxed very differently.
The IRS Pays More, Compounded Daily
The IRS pays interest on individual overpayments at the federal short-term rate plus three points, compounded daily under section 6611. The IRS confirmed that the rate stays at 7% for the fourth quarter of 2026. Consequently, the IRS currently pays more than two and a half times HMRC's rate. However, there are limits. No interest accrues for any period before a late return is actually filed, and none is paid at all if the IRS issues the refund within 45 days of the return. Our guide to receiving an IRS refund abroad without a US bank account covers how that money reaches a British account.
US Source and the Treaty Twist
Interest on a refund of US income tax is US-source income under Treasury Regulation 1.861-2. The IRS taxes it. Britain taxes it as well, because a UK resident pays tax on worldwide savings income. Under Article 11 of the US-UK income tax treaty, interest paid to a UK resident is generally taxable only in the UK. The savings clause nevertheless lets America tax its own citizens. Article 24(6) then limits the UK credit to the tax America could charge a non-citizen, which is nil on interest. Therefore, the US must give the credit by re-sourcing the income. Our explainer on treaty re-sourcing of US-source income shows how that works on Form 1116.
Two Refunds, Two Opposite Answers
To summarise the contrast, HMRC's repayment interest is untaxed in Britain and fully taxed in America. Meanwhile, the IRS's overpayment interest is taxed in both countries, with the US giving way through the treaty. Keeping the two separate on your records avoids the most common error we correct, which is treating both as exempt, or both as taxable twice.
Company Owners: Repayment Interest Inside a UK Company
For founders and owner-managers, the corporate version of the problem runs through a different set of US rules.
Corporation Tax Refunds Are Taxable Income
Large companies pay corporation tax in quarterly instalments based on estimates. When profits come in lower, the company receives a refund with repayment interest at the instalment rate. As noted above, that interest is taxable in the UK as a loan relationship credit. HMRC's guidance on repayments in its Corporation Tax manual at COM125090 sets out when HMRC pays the interest automatically and when the company must ask.
Subpart F and the High-Tax Exception
If you own more than half of the company with other US shareholders, it is a controlled foreign corporation. Interest is foreign personal holding company income, which can produce a subpart F inclusion on your personal return. However, the company pays UK corporation tax at 25% on that interest, which exceeds 90% of the US corporate rate of 21%. Accordingly, the high-tax exception election normally removes it from subpart F, and it falls out of the net CFC tested income calculation too. The election must be made on the return, so it needs to be part of your Form 5471 preparation rather than an afterthought. Smaller profits taxed at the 19% small profits rate do not clear the 18.9% threshold by much, so the figures need checking each year.
Reporting, Records and Missed Filings
A refund is also a moment when HMRC and the IRS can see more of your affairs than usual. Therefore, the paperwork around it deserves attention.
Where the Refund Lands
HMRC pays refunds into a UK bank account or by cheque. Every UK account you hold, including the one that receives the refund, counts towards the $10,000 aggregate threshold for the FBAR filed with FinCEN. A large refund can push a quiet account's maximum balance up for that year, so record it. Additionally, accounts with a combined value above the Form 8938 thresholds for residents abroad must appear on that form as well. Our team handles both through our FBAR and FATCA reporting service.
Unclaimed Refunds Can Cost You the Credit
US regulations treat foreign tax as creditable only to the extent it is compulsory. If you could reasonably have claimed a UK refund but did not, the IRS can deny the credit for the overpaid amount. Consequently, leaving an HMRC overpayment unclaimed is not a neutral choice for an American. Britain gives you four years from the end of the tax year to make an overpayment relief claim, and HMRC's guidance on claiming a tax refund sets out the routes.
When Earlier Years Were Never Filed
Refunds often surface after years of non-filing. A client who catches up on missed UK tax returns may discover overpaid PAYE, and HMRC then pays the refund with repayment interest. Similarly, someone who has never filed US returns must now report that repayment interest along with everything else. If you have missed US tax returns or FBARs, the order in which you file both sets of returns matters. Our cross-border planning team sequences catch-up filings so that each refund and credit lands in the right year.
Case Study: A Bonus Year and an Autumn Refund
The following illustrative case uses realistic figures for a senior banker. The client's name is changed.
The Overpayment
Helena is a US citizen and managing director at a London investment bank. Her 2023/24 Self Assessment return showed a liability of £180,000 above PAYE, driven by a deferred bonus vesting outside the payroll. Consequently, HMRC set her 2024/25 payments on account at £90,000 each, due on 31 January 2025 and 31 July 2025. Her 2024/25 income was lower, and the true liability was only £100,000. She did not reduce the instalments. When she filed her 2024/25 return in January 2026, it showed an £80,000 overpayment, attributable to the July 2025 instalment. HMRC issued the refund on 20 August 2026.
The UK Result
Repayment interest ran from 31 July 2025 to 20 August 2026, a period of 385 days. Across the rate changes in that period, the rate averaged roughly 2.9%. Therefore, Helena received about £2,450 of repayment interest on top of her £80,000. Under section 749, she paid no UK tax on the £2,450 and did not report it on her 2026/27 return.
The US Result
On her 2026 US return, the £2,450 converts at the spot rate on the day of receipt, roughly $1.35, giving about $3,310 of foreign-source passive interest. At her 37% marginal rate plus the 3.8% net investment income tax, the federal charge is about $1,350. She had no spare passive credits, so the whole amount was payable. More significantly, she had claimed the full £180,000 of 2025 instalments on her 2025 Form 1116. The £80,000 refund reduced her 2025 creditable tax by about $104,000 at the original exchange rates. Because her UK tax already exceeded her US liability on that income, the amendment cut her excess credit carryforward rather than creating a balance due. Nevertheless, it had to be filed by October 2027, the extended due date of her 2026 return. Had she reduced her July 2025 instalment, she would have paid 7.75% interest only if her estimate proved wrong, kept £80,000 earning at private-bank deposit rates, and avoided the amendment entirely.
How TaxYork Can Help
We prepare both returns from one set of facts, which is where refunds and their interest stop slipping through. Our team identifies every HMRC repayment in the year, records the repayment interest at the correct exchange rate, and reports it on Schedule B and the passive basket of Form 1116. Furthermore, we prepare the section 905(c) amendments that a refund triggers, correct carryover schedules, and decide with you whether reducing payments on account is safer than waiting for a refund. For company owners, we coordinate the corporation tax return with Form 5471 and the high-tax exception election. Additionally, where earlier years were never filed in either country, our US tax returns for expats service brings everything up to date in the correct order.
Conclusion
Repayment interest looks like a small, friendly payment from HMRC, and in Britain it is: section 749 removes it from income tax entirely. For an American, however, it is taxable foreign interest with no UK tax to credit, and it can carry the 3.8% surcharge on top. Moreover, the refund it accompanies is a foreign tax redetermination that obliges you to amend the year in which you claimed the credit. The practical lessons are straightforward. Report every pound of repayment interest on your US return. Amend Form 1116 when a credited tax comes back. Above all, manage payments on account so that you are not lending HMRC money at 2.75% while the IRS taxes the interest at up to 40.8%.
Contact Us
If HMRC has repaid tax to you this year, or you expect a large refund after a bonus or a move, we can review both returns before the deadlines arrive. Please book a consultation with our team. You can also email hello@taxyork.com or call 020 3488 8606 to speak with a US-UK specialist.
Disclaimer
This article provides general information about US and UK tax rules as they stood in October 2026. It does not constitute tax, legal or financial advice, and it should not be relied upon as a substitute for professional guidance on your specific circumstances. Tax law, interest rates and HMRC and IRS practice change frequently, and the case study is illustrative, with names and figures altered. Before acting on any matter discussed here, please consult a qualified US-UK tax professional. TaxYork accepts no liability for actions taken on the basis of this article.