Tax-Free Savings Account (TFSA): The best ISA Tax-Free Accounts

There are several ways to save and invest money without paying taxes on investment gains, and one of the ways is through a tax-free savings account (TFSA). If you’d like to know more about your tax-free savings account options, you’ve come to the right place. Let Moneyfarm help you to discover more.

What are tax-free savings accounts?

We will come to the tax-free savings account options here in the UK in a moment, but let’s start by looking at what Canada offers their citizens.

How Canadian TFSAs work

Canada introduced the TFSA (TFSA means Tax-Free Savings Account – or TFSA CA for short) in 2009 to help Canadian citizens save or invest their money tax-free during their lifetimes. As well as money, tax-free savings accounts can also hold various investments, including bonds, Exchange-Traded Funds, Guaranteed Investment Certificates (GICs), and stocks.

As of the 2023/2024 tax year, the annual limit for contribution to a TFSA is CA$ 6,500.

You can read full details about tax-free savings accounts, including all allowances and restrictions, on the Government of Canada site.

Tax-Free Savings Accounts in the UK

Tax-free savings accounts are available here in the UK, but that is not what they’re called, although it is how they function. Let’s begin by reviewing the rules and regulations that apply to saving in the UK.

Your personal allowances

Three allowances determine whether you must pay tax on your savings interest and, if you do, how much. They are:

• Your personal allowance (on earnings.)
• The starting point for savings.
• Your personal saving allowance (PSA)

You don’t have to pay any tax if you earn £12,570 per annum or less. Anything above that will impact taxation. You can find the full details here.

The starting point for savings is £5,000. For example, if you earn £17,000 per annum, after subtracting your personal earnings allowance (£12,570), you will be left with £4,430. You subtract this from the £5,000 savings starting point, leaving a remaining balance to the starting point of £570. You haven’t used the full £5,000, so no tax on savings interest will be due.

You might also qualify for a saving allowance of up to £1,000, without having to pay tax, depending on your income tax band. This breaks down as follows:

• Annual earnings of up to £12,570 (basic rate taxpayer) – the full £1,000 allowance
• Annual earnings between £12,571 to £50,270 – (higher rate taxpayer) – allowance reduces to £500
• Annual earning of £50,271 and above (additional rate taxpayer) – allowance is zero

If you exceed the allowances, you will pay tax on interest in accordance with the tax band personal earnings allowance bracket into which you fall.

When we use the phrase “per annum” in this blog, we refer to the tax year. Find more details on the UK tax year dates 22/23 link.

What are tax-free ISAs, and why are they tax-free?

For many savers and investors in the UK, the tax-free savings account of choice is the Individual Savings Accounts (ISAs) – a first-class tax saving account.

The ISA tax free savings account comes in five different options:

• Cash ISAs
• Innovative Finance ISA
• Junior ISAs
• Lifetime ISA
• Stocks and Shares ISAs

The reason ISAs are so popular in the UK is that, with this sort of tax-saving account, you don’t just earn tax-free interest; you also don’t have to pay income tax or capital gains tax. It’s one of the best tax-free savings account, and it’s easy to set up and requires no maintenance. You don’t have to do a thing.

Of course, with any type of investment, there is a certain amount of risk, which is why some people take the Cash ISA tax-free option, which brings us nicely to the ISAs vs Savings Accounts debate.

While a Cash ISA interest tax-free account carries little or no risk in terms of volatility, it’s very similar to an ordinary savings account offered by a bank or building society. The earning interest component is very low, and in real terms, savings will quickly lose their value due to inflation.

By comparison, the other ISAs have no stocks and shares ISA taxes to worry about, and can be considered high-interest tax-free savings accounts.

ISAs with Moneyfarm

Moneyfarm offers the full range of ISA tax free savings account options.

As far as your personal ISA annual allowance is concerned, you can contribute £20,000 per annum. However, if your investment portfolio contains more than one type of ISA, this £20,000 annual limit is shared by all with certain provisos. The maximum you can contribute per annum to a Junior ISA is £9,000, and to a Lifetime ISA, it’s £4,000.

Another popular saving option here in the UK is NS&I (National Savings and Investments) premium bonds. But unless you win a prize, it cannot be considered an interest-free savings account because no interest is applied to the sum invested.

However, if you are lucky enough to win a prize, that prize will be awarded tax-free. Only then can it be considered to be a sort of tax free savings account.

Regarding tax-free savings options, an ISA is more of a sure thing. Whereas the chances of winning per £1 premium bond number are 24,000 to 1, ISA tax-free savings will always grow thanks to compound interest. In the long term, these tax-free investments in the UK can grow significantly in value. But, in the end, it all depends on your attitude towards risk – after all, the value of your investment can fall or rise.

Tax on savings in the UK can be reduced by choosing the right savings and investment accounts. Not only are ISAs tax-free, but they are also tax-free in the fullest meaning of the phrase. No tax on interest, no capital gains tax, and no income tax.

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FAQ

What happens if I over-contribute to my TFSA?

A penalty tax of 1% per month will be applied to any excess contributions you make to your tax-free savings account.

Can I re-contribute funds withdrawn from my TFSA?

Yes, as long as you have an unused TFSA contribution room available. Any money taken from your TFSA can be added back in later years without reducing your available TFSA contribution room.

Can I have multiple tax-free savings accounts?

You may have more than one TFSA account with several financial institutions, but your total contributions cannot exceed the annual contribution limit.