Using your ISA allowance for a better return on your savings

on September 5, 2017

ISAs were introduced by the government as a tax efficient way of saving or investing. In simple terms, an ISA allows you to save money without paying tax on the interest you receive. If you’re starting to think about saving or investing, ISAs could be a good place to begin.

There’s a limit on the amount you can pay into ISAs each tax year. For the 2017/2018 tax year the limit is £20,000. You can only pay in up to your annual ISA limit into one cash ISA per tax year so you must choose which one is right for you.

You must save or invest by 5 April – the end of the tax year – for it to count for that year. Crucially, any unused allowance doesn’t roll over – so if you don’t use it, you lose it. You’ll get a new allowance the next tax year, but won’t be able to contribute anything to the old ISA.

There are three main types:

Cash ISA: Acts as a savings account into which you deposit cash

Stocks and Shares ISA: Acts as a tax-free wrapper for your investments

Innovative Finance ISA: Designed for peer-to-peer lending

Help to Buy ISA & Lifetime ISA, designed for those looking to save for their first home or for retirement. Yet do note, there’s a limit to how much you can put in these two. For example, you can only put £4,000 in the Lifetime ISA every year, which means you could put the remaining £16,000 into any of the other options.

Different ISAs have varying degrees of qualification. You must be:

  • Aged 16 or over to open a Cash ISA
  • Aged 18 or over to open a Stocks and Shares ISA & under 40 to open Lifetime ISA
  • There’s a separate Isa for children under the age of 16, called the Junior ISA

Cash ISAs explained

Use a standard instant access savings account, and if you’ve large amounts of savings, you’ll have to pay tax on the interest. Basic-rate taxpayers have to give 20% of the interest above their £1,000 personal savings allowance earned straight to the Government. For higher-rate taxpayers, it’s 40% above their £500 personal savings allowance. And for additional-rate taxpayers, it’s 45% on all savings interest – there’s no personal savings allowance available for additional-rate taxpayers.

With a cash ISA, there’s NEVER tax to pay on interest

Cash ISAs are simply savings accounts where the interest is NEVER taxed. And any interest you earn doesn’t count towards your personal savings allowance, so if you’ll earn a lot of interest, you can protect more of it in an ISA.

A variable rate cash ISA pays a variable rate of interest where the interest rate can go up or down, but you can access your money at any time.

A fixed rate cash ISA pays a fixed rate of interest where you know what interest rate you’ll earn and for how long. Early access to your money is subject to a penalty.

Help to Buy ISAs explained

Help to Buy ISAs were launched in December 2015 for first-time buyers only. You can save £1,200 in the first month of opening, and then £200 a month after that. When you use the funds to buy your first home, the state adds a 25% bonus (up to a maximum of £3,000) onto your savings, helping you to buy the property.

Help to Buy ISAs are a type of cash ISA, meaning you can’t usually hold both in the same tax year, though some providers allow you to split your allowance between the two.

Innovative Finance ISAs explained

Innovative finance ISAs can be a lot of things, from peer-to-peer lending to lending to businesses, property and crowdfunding. Open an innovative finance ISA and it means any interest you get from lending money to other people (or companies) isn’t taxed.

But this is riskier than putting money into a cash ISA. The fact you’re lending the money means there’s a chance the borrower won’t repay. Risks are mitigated by spreading your cash across multiple loans, or provider-backed safeguard funds. As with any ‘investing’, the more risk you take, the more reward you could get.

Lifetime ISAs explained

Lifetime ISAs were launched on 6 April 2017. You can save up to £4,000 a year into the LISA as a lump sum or by putting in cash when you can. Then the state will add a 25% bonus on top. So, if you save £1,000 you’ll have £1,250 and if you save the full £4,000 you’ll have £5,000. And that’s before interest or growth. Here are the details:

The bonus is paid until you hit age 50.

The first year’s bonus is paid in April 2018; after which it’s paid monthly – once in your account it counts as your money. You’ll be paid interest on it too.

The bonus is paid on contributions – so what you put in (so for cash LISAs interest doesn’t count; for shares LISAs whether the investment grows or shrinks is irrelevant to the bonus).

The maximum bonus is £32,000 (unless the rules change). To get that you’d need to open one on your 18th birthday and keep contributing the maximum £4,000 each year until you are 50.

Stocks & Shares ISAs explained

You can also use your ISA for investing. This type of account is called a stocks & shares ISA, where you can invest in funds (shares or bonds from various companies pooled into one investment), bonds (basically a loan to a company or a government), and shares in individual companies.

Stocks & shares ISAs are typically managed by an online service (often called an online broker or platform), fund management group or fund supermarket.

If you wish to open a stocks & shares ISA, you need to be aware that many of these companies charge a fee for you to open and hold a stocks & shares ISA. Some even charge you if you want to change any of your investments, withdraw your money or move it to another company.

Some stocks & shares ISA providers may allow you to hold some of your allowance as cash within the stocks & shares ISA. But you’re free to open separate accounts if you prefer.

Remember, there’s always a risk involved when investing, as your investments can go down as well as up. The general consensus is that it’s a long-term game – you should put money away for a minimum of five years to smooth out any ups and downs.

As well as putting new money into an ISA, you’re allowed to transfer some or all of the balance between ISAs or providers.

It’s important to remember to arrange to transfer money between ISAs as an ISA transfer. If you move money between ISAs by withdrawing instead of arranging as a transfer the money will lose its ISA status and if replaced back into the ISA will count towards your current tax year ISA limit.

Taking the time to manage your money better can really pay off. You can use these extra savings to settle debts you might have, put them towards your pension, or spend them on your next car or holiday. If you need more information on how to save money more tax efficiently please pop in for a coffee and informal chat, team at Outsourced ACC will be happy to guide and help you.

(Written by Irina Stucere)

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