A beginner's guide to ISAs
Check out our simple guide for savers who want to take advantage of tax-free ISAs but don’t know where to start.
There are two types of ISAs – cash ISAs and stocks and shares ISAs.
In the current tax year which ends on 5 April, you can invest up to £10,200 without paying tax. With most other savings vehicles, basic rate taxpayers pay 20% on their return which increases to 40% for those in the higher bracket.
We clear up some of the most common areas of ISA-related confusion.
Cash ISAs and the basics
During the current tax year, anyone over the age of 16 can invest up to £5,100 in a cash ISA.
A cash ISA is similar to an ordinary savings account but you get 100% of the interest from your money.
Cash ISAs typically come with a variable rate so the amount they pay moves with the Bank of England’s Base Rate. Alternatively a variable rate ISA could include a ‘bonus’ for 12 months after which the return plummets.
However, there are also fixed-rate ISAs which require you to lock your money away for a certain number of years.
What about stocks and shares ISAs?
If you have taken out a cash ISA, you can also invest £5,100 in a stocks and shares ISA. Alternatively, you can put your entire £10,200 allowance into a stocks and shares ISA.
Stocks and shares ISAs allow customers over the age of 18 to invest in the stock market – any growth from this investment is tax-free but you will pay tax on the dividends.
With ISA season already upon us, time is running out to use this year’s tax-free savings allowance. But just how much do you know about ISAs?
Could I lose my money?
There are risks associated with stocks and shares ISAs. Because markets are volatile, the value of your savings could go down as well as up.
In contrast, the majority of cash ISAs are covered by the Financial Services Compensation Scheme. If your ISA provider goes bust, the government will reimburse you for savings of up to £85,000 per financial institution.
Remember this limit applies to all savings with one institution and not just ISAs. If you have significant savings in one place, it could be prudent to move some of your money elsewhere to make sure you are still covered.
What if I need to make a withdrawal?
If you need access to your cash, it is possible to make a withdrawal from your ISA but there could be penalties for doing so.
As soon as you take out this money it will lose its tax-free status and cannot be reinvested as part of this year’s ISA allowance.
Related links
Imagine you have invested your yearly limit of £10,200 but suddenly need access to £2000. As soon as you have withdrawn this money, you will have to wait until the next tax year to reinvest it in your ISA.
Also beware some cash ISAs require you to fix for a number of years – if you make a withdrawal during that period you may be penalised with a loss of interest. Some providers may even force you to close the account.
Can I transfer old ISA money?
Yes, it is certainly possible to switch your provider.
In fact, you may get a better return on your money by doing so. Often cash ISAs come with attractive bonus rates that disappear after a year – should this happen, it makes sense to shop around for a new product.
Although many ISAs accept transfers, a number of the most competitive products are only available to new ISA money.
What are the best cash ISAs available at the moment?
At present, Santander’s Flexible ISA guarantees to track 2.8% above the Bank of England Base Rate for one year – increasing to 3.3% for existing customers. With rates held at 0.5%, the account currently pays 3.3% or 3.5%. Remember you will receive a higher return if interest rates increase in the next 12 months.
Savers who want to move money from an existing ISA could consider the Halifax ISA Direct Reward which pays 3.0% – increasing to 3.2% for existing current account customers.
What if I have over £10,200?
Despite these tough economic times, some people have more than £10,200 to squirrel away towards their nest egg.
If you're one of these lucky few, you should make sure your money is going into a savings account with a competitive rate of interest. Otherwise, it could be wise to speak to an independent financial adviser about other investment options.
Also note your annual ISA allowance will increase to £10,680 in the next tax year.
**This material is for information purposes only and should not be considered financial advice. We strongly encourage our readers not to rely solely on this content, but to seek independent advice when making financial decisions.**
