An individual savings account, or ISA for short, allows you to grow your money in a tax-efficient manner. It’s a simple scheme set up by the government to help savers and investors make their money go further. Here, we explain how it could help you.
When saving and investing, you could be required to pay tax on any dividends over £5,000 in the 2017/18 financial year, and profit you make over £11,300.
Although this level of profit might look out of reach in the short-term, when you’re investing over the long-term, these returns become much more realistic and an ISA is a simple way to ensure you don’t pay more tax than you need to.
You can find out more in our free ISA guide.
What is an ISA?
An ISA is best described as a wrapper that protects your savings and investments from the taxman. Whether you decide to save or invest, all of the interest, income and capital gains generated from the money you put in your ISA can grow tax-free.
The annual allowance for 2017/18 is £20,000, which means you can put up to this limit in your ISA in each tax year.
There are many different types of ISAs, but the two main categories are cash ISAs and stocks and shares ISAs. Whilst you can only open and use one of each type during one financial year, you can split your £20,000 allowance across a variety of ISAs.
What is a cash ISA?
A cash ISA allows you to build up your savings in a tax-efficient manner. When you save money in a cash ISA, your 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 put money in one cash ISA each year.
Although cash has traditionally been viewed as a ‘safe’ place to keep your money, the low returns available on easy access cash ISAs mean your money is probably losing value to inflation rather than growing for your future.
This is why more Brits are looking to the financial markets to protect their money from inflation and grow it for the future.
What is a stocks and shares ISA?
A stocks and shares ISA allows you to invest your money through the ISA wrapper, shielding any returns from tax. Making the most of your annual allowance each year can help you maximise your returns over the long run.
Investing is a popular way to offset the impact of inflation on your money. You can invest in shares, bonds, funds and other investments through your ISA wrapper.
If you like hard work that’s necessary to manage your investment yourself and the thrill of trading, you can manage your ISA portfolio through an investment platform. Once you open your ISA with your provider, you can buy and sell investments just like you would in a general investment account.
Many investors prefer for the experts to do it for them, whether that’s because they work in finance and don’t want to manage their portfolio when they get home, they’re juggling the school run with a career, or they just lack the confidence to do it themselves.
Before you start investing, make sure you’re aware of what you’ll be paying in fees – charging structures can often be complex and expensive, which will only eat into your returns and delay you from reaching your goals.
A common misconception is that stocks and shares ISAs lock your money away. Whilst it’s important to stress how important long-term investing is for your returns, stocks and shares ISAs can be flexible, allowing you to take money out and replace it within the tax year without it affecting your overall allowance.
It’s also getting easier to take your money out. With wealth managers like Moneyfarm, the flexibility of our portfolios and platform means you can get your money out in five working days.
What is a Lifetime ISA?
Investors looking to buy their first home or save for retirement, can now put their money in a Lifetime ISA (LISA) and be rewarded with a 25% bonus from the government on top of their savings.
If you’re under the age of 40, you can put up to £4,000 in your LISA each year and receive the government bonus, which equates to £1,000 if you’ve invested the full amount. You can put your money in a cash LISA or stocks and shares LISA.
The LISA seems more generous than the Help to Buy ISA, especially as the LISA bonus will be paid monthly, which means you can benefit more from compounding – where your returns are reinvested and earn their own returns.
However, the LISA has been controversial for wanting to penalise savers to need access to their money early.
For example, your £1,000 initial investment is topped up with a £250 bonus from the government. If you want to withdraw this £1,250 early, you will be charged a 25% penalty: £312.50. This means you will only get back £937.50.
Can I open an ISA
Anyone can open an ISA, as long as you’re at least 18 years old and a UK resident for tax purposes. Opening an ISA is simple, cash ISAs are available at most high street banks and building societies, and you can invest through an ISA with most investment providers.
Opening a stocks and shares ISA with Moneyfarm is quick and hassle-free and you can do it from your account, make sure you have your national insurance number to hand. If you need help at any time, our investment consultants are at the end of the phone to help.
Remember, you can’t pay into more than one type of ISA in one financial year. If you have already paid into an stocks and shares ISA this year, you can transfer the whole thing to Moneyfarm but not part of it.
What are the benefits of a stocks and shares ISA?
When it comes to managing your money for the future, it can often feel like we’re overwhelmed by choice. So how do you know if it’s time to make your money work harder in a stocks and shares ISA?
- If you’re fed up of inflation eating into the purchasing power of your cash and want to offset its impact on your hard-earned savings
- If you’re tired of the negligible returns on you cash ISA and want to grow your money to help you achieve your financial goals
- If you want access to flexible investments that you can withdraw and put money into during the tax year without it affecting your annual allowance
Should I choose a cash ISA or stocks and shares ISA?
Once you’ve saved up three months of outgoings and have paid off any expensive debt, you might want to try and make your money work harder for you on the financial markets. After all, any savings unnecessarily stuck on a cash ISA could be losing value instead of making you money due to the silent threat of inflation.
Imagine you had £10,000 in a cash ISA generated a 1% return. After one year you’d have £10,100 in your account. This seems like a good deal for you cash just sitting in a savings account.
Unfortunately, if inflation reaches the Bank of England’s 2% target – it’s been running ahead of that for some time already – you’ll need to generate £200 just to retain the value of your initial £10,000 over those 12 months.
To ensure you’re not losing purchasing power on your savings, you need to find inflation-beating returns. One way to do this is by investing in a stocks and shares ISA. By investing in the right way for you, you can look to not just retain the value of your money, but also grow it for the future.
Of course, no investment is risk free – but neither is keeping your money in cash any more. Once you’re ready to invest, it’s important you do so in the way that’s right for you, taking into consideration what your saving for, your attitude to risk and time horizon. Understanding your investor profile is one of the first steps to reaching your goals.
What is the ISA allowance?
Since its launch in 1999, the ISA allowance has jumped nearly three-fold from £7,000 to £20,000 today, giving savers more opportunity to benefit from the generous tax benefits of investing in an ISA. This is a personal allowance, so you and a partner can put up to £40,000 in your ISAs each year to watch your money grow tax-free.
You can split your £20,000 allowance between a stocks and shares ISA, cash ISA, LISA, and Innovative Finance ISA if you wish. Even if you have a cash ISA elsewhere, you can still open a stocks and shares ISA with Moneyfarm.
Unfortunately, as the allowance doesn’t roll over into a new tax year, it’s a case of ‘use it or lose it’. The allowance automatically resets on the first day of the new financial year, 6 April, and runs to the following 5 April.
You don’t have to use all of your ISA, just what you feel comfortable with. Don’t be put off by the £20,000 limit, even using a small part of your allowance will put in you in a better position to achieve your long-term goals.
Stocks and shares ISAs have become much more flexible recently, with investors able to withdraw and deposit money into their account throughout the year without it affecting their overall allowance.
Transferring your old ISA doesn’t count to this year’s allowance and you can decide to transfer all or some of your money. If you’re transferring this year’s however, you have to transfer it all.
When should I open an ISA?
It’s better to use it earlier in this year, as this means it’s invested for longer and can benefit from compounding – this is where the return you make on your investments are reinvested and generate their own earnings.
You don’t have to invest the full ISA allowance at the beginning of the tax year, just what you can. Investing a little and often can help even out the amount you pay for an investment – pound cost averaging – which can maximise returns.
How do I open an ISA?
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.
All you need to do is:
- Sign up and match with an investor profile
- Select the ISA option
- Add funds to your account and transfer any old ISAs over to Moneyfarm
- Sit back, relax, and let us do the hard work for you.