Useful for saving into cash and stocks and shares, the tax-free status of ISAs means that they should be most people's first port of call when looking for savings products.
ISAs are a tax-efficient way of saving into cash and stocks and shares. They should be most people’s first port of call when looking for savings products. They were launched by the government to encourage people to save for the future and followed on from PEPs (stocks and shares) and TESSAs (cash).
If you save cash, ISAs let you save without paying any income tax. For every £1 of interest you earn on your savings, instead of the taxman pocketing 20p of income tax (if you’re a basic rate tax payer), you get to keep it all. The benefits are greater the higher the rate of tax you pay.
If you invest your ISA in shares, you don’t pay any personal tax on any income received or increase on the value of your investment. You also have no liability for Capital Gains Tax. There is a small (currently 10%) amount of withholding tax which cannot be reclaimed by the fund manager. This is the same as in pension funds. The tax benefits of equity ISAs are greater the higher the rate of income tax you pay. If you invest in equities outside an ISA, and are a higher rate or additional rate tax payer, you would pay 32.5% or 37.5% tax on your dividend income.
For every tax year- which runs from 6th April one year to 5th April the next year you are only allowed to invest a certain amount in an ISA. This is known as your annual ISA allowance.
In July 2014, new rules on ISAs were introduced. Every adult in the UK can now save up to £15,000 in cash or equity ISAs. This is a massive increase from the previous £5,940 cash limit and £11,880 equity limit. You can also choose to invest the whole £15,000 in cash or in shares, or hold both in whatever ratio you like.
Just like normal savings accounts, there’s a variety of cash ISAs available, such as instant access, fixed rate and accounts with base rate guarantees, so you need to decide what best fits your circumstances. If you have invested the former full amount in your cash ISA ,£5940, for the tax year commencing April 2014, from July 2014 to 5th April 2015, you can, in principle, add funds up to the new limit, £15,000, minus any amount you choose to invest in shares. However, you need to make sure that your ISA provider allows additional deposits. If you have a fixed rate ISA, this may not be possible. In that case, you should consider opening a new ISA for the remainder of your ISA allowance.
Share in individual companies can be placed inside what’s called a self-select ISA, which is usually managed by stockbrokers. These can be a useful wrapper for shares acquired through a company share scheme.
However, a more common use of the ISA equity allowance is for collective investment vehicles such as unit or investment trusts. These are pooled investments where a fund manager picks a selection of shares and the value of the investment depends on the collective performance of the shares chosen.
In principle, you can transfer funds from one ISA to another. This can be useful as some old cash ISAs may have low interest rates. As long as they are transferred properly, you will not lose that year’s ISA allowance. Your ISA manager will normally manage this transfer. However, it is vital that you check that transferring the funds are within the account’s rules. You may also have to pay a penalty for withdrawing funds within a particular timescale. You have to work out whether you’d be better off paying the penalty and getting a better interest rate. Your financial adviser will be able to assist you with this.
Providing the rules of your particular scheme allow, you can have instant access to your funds. However, once the money is withdrawn it cannot be returned into the ISA. If you have invested the full allowance in a tax year and the withdraw funds within that same tax year, you will not be able to contribute any more to your ISA during that tax year.
ISAs are not a pension product, but they can be a useful complement to a pension, either as income (for which there is no further personal tax to pay), or for drawdown of capital at a faster rate than that permitted in a pension. They can also be used as the vehicle to build up capital to repay mortgage debt in an interest-only mortgage. However, we would recommend you take advice if you wish to do this, as you have to ensure that your savings vehicle complies with the latest rules your mortgage company sets.
If you have any unused ISA allowance left at the end of 5th April, you cannot rollover this allowance to add to your next year’s allowance. It is lost for good.
Cash held in ISAs are subject to the government guarantee to repay the first £85,000 in the event of an institution going bust. If you have more than this (including cash ISAs, current accounts and deposit accounts), you will only get the first £85,000 back if the institution goes bust. For complete peace of mind, don’t put more than £85,000 in one institution. Don’t forget, that different brands may, in fact, be actually in the same institution. For example, currently Halifax and Bank of Scotland brands are all part of Lloyds. You need to find out whether your accounts held at different brands of bank or building society are definitely separate financial entities.
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