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What is an ISA and how can you make the most of your allowance?

ISA, tax-efficient, cash, stocks and shares ISA,

An individual savings account – ISA for short – is a tax-efficient savings scheme set up by the government.

It’s best described as a wrapper that protects your savings and investments from the taxman. You can put up to the annual allowance in your ISA, and all of the interest, income and capital gains generated from your money can grow tax-free.    

The annual ISA allowance is now £20,000. You can choose whether you want to put the full allowance in a cash ISA or a stocks and shares ISA, or a combination of the two – although you can only invest in one cash and stocks and shares ISA each year.

What is a cash ISA?

A cash ISA is a tax-efficient way to build up your savings. Your ISA provider pays you interest on your savings, which is tax-free.

You can open a cash ISA with most high street banks and building societies, but you’re only allowed to open one cash ISA each year.  

What is a stocks and shares ISA?

The stocks and shares ISA allows you to invest in shares, funds and other investments through the ISA wrapper, shielding any returns from tax. Making the most of your tax-efficient ISA wrapper each year can help investors maximise their returns over the long run. 

Stocks and shares ISAs can be flexible, allowing you to take money out and top-up as your wish.  

Choosing between a cash ISA and a stocks and shares ISA

If you’re able to put a little away each month, it may be time to invest in a stocks and shares ISA and make your money work harder for you.

Unfortunately, the measly interest rates offered on cash ISAs by high street banks just aren’t keeping up with the cost of living. Inflation has reached 2.3% and is expected to keep growing.

This means your hard-earned savings are effectively losing value over time. After the bank rate was halved to 25 basis points, the best easy access cash ISA rates are now sitting at around 1%1.

To ensure your savings don’t lose value, you need to earn inflation-beating returns. One way to do this is through a stocks and shares ISA. But investing isn’t risk free, the value of your investments can go down as well as up.

How to invest your ISA allowance

If you want to invest your ISA allowance but don’t know where to start, here are four things to think about.   

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  1. Risk

We all have different investment goals, which shapes how we view risk. It’s important to understand our risk tolerance as it helps us build our portfolios.

For example, those saving for something in five years’ time will prioritise protecting the value of their investment over making it grow. Those saving for something in 30 years can afford to carry more risk as any losses experienced today won’t matter in three decades.  

After completing a risk questionnaire, Moneyfarm matches investors with a portfolio suitable to their risk level.

  1. Diversification

If you want to reduce risk in your portfolio, you should look to diversify. By spreading your money across a broad range of investments, a well-diversified portfolio aims to smooth out any negative performance with better results elsewhere. 

At Moneyfarm our portfolios are built purely from exchange traded funds, which offer diverse exposure to specific markets.

  1. Invest your ISA allowance early

By investing your ISA allowance early you can make the most of your tax free returns if your investments go up in value. By leaving it to the last minute you’re limiting your scope for potential returns.  

Moneyfarm ISAs are flexible, which means you can top-up when you like and access your money within five working days.

  1. Management fees

A controversial subject in asset management, hidden fees can eat into investor profits. When setting up a stocks and shares ISA, make sure you know your provider’s fee structure inside out.

At Moneyfarm, we pride ourselves on being transparent. We manage your first £10,000 for free, and charge just 0.6% on your investments worth £10,001-£100,000, and 0.4% on your investments worth £100,001-£1 million.

Whether you’re making your investment debut or are a seasoned investor, putting your money in a stocks and shares ISA doesn’t need to be a hassle. With Moneyfarm you can set up an account in just five minutes.

It’s as easy as 1,2,3;

  1. Sign up with your email address and set a password
  2. Fill out our questionnaire so we can match you with a portfolio suited to your risk tolerance
  3. Select the ISA option and you’re ready to invest

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