Making the most of ISAs

It’s important to make the most of your ISA allowance this year. In the third article of a new series, we look at the things savers should be thinking about.

As a general rule, most people try to keep life as simple as possible. When it comes to saving for the future, this maxim should still apply, and it is hard to find a simpler starting point than setting up or investing in an ISA.

Straightforward, flexible and tax-efficient, ISAs have proved extremely popular since they were introduced 20 years ago. Latest figures show that over 21 million people have got one and that the total value held in ISAs is over £608 billion.1

Cash ISAs have accounted for four out of five subscriptions since 1999.2 Whilst that trend has tilted slightly more towards Stocks & Shares ISAs in recent years, as savers expressed their frustration with the low returns on cash, it means that over £270 billion is deposited in Cash ISAs.3

What’s notable though, is that this represents only 44% of the total market value of ISAs.4 Despite accounting for only one in five subscriptions, Stocks & Shares ISAs have proved their ability to grow investors’ wealth more successfully over the longer term.

Why Cash ISAs don’t always add up

As Phil Woodcock, Head of Investment Communications at St. James’s Place, explains, “The average easy access Cash ISA is currently paying 0.85%5 and inflation is running at 1.4%6. At that rate, savers opting for a Cash ISA are currently losing money in real terms. There seems little point in saving tax on that. What’s more, this has been the dilemma facing cash savers for most of the last decade, during which time equity markets have performed strongly.”

It is always prudent to have some cash available for emergencies. However, for most people, there is a better way to do this than through an ISA. The Personal Savings Allowance allows UK taxpayers to enjoy a certain amount of tax-free interest from standard cash accounts each year.

A basic rate taxpayer can earn tax-free interest of up to £1,000 on savings in a standard bank account. For higher rate taxpayers, the allowance is £500. Based on the current average easy access rate7, that means a basic rate taxpayer could earn tax-free interest on savings of up to £183,000. That’s an unnecessarily comfortable tax-free emergency pot for most people. Maybe, savers should therefore be thinking longer term with their ISA allowance?

“Thanks to the Personal Savings Allowance, a basic rate taxpayer can currently earn tax-free interest on savings of up to £183,000.”

Invest for long-term success 

“Cash ISAs are easy to understand and feel safe because your capital is protected, and that’s why they’re still the default option for most savers,” says Woodcock. “But ISAs are a long-term opportunity to grow your money free from any further liability for tax on income or capital gains. So it follows that, to make the most of the opportunity, you need to invest in assets capable of generating both sources of return. That means investing in a Stocks & Shares ISA. If you are nervous about the ups and downs of investing in the stock market, it’s worth considering drip-feeding your investment through a regular savings plan to give you more peace of mind.”

The ISA allowance for this tax year is £20,000, so doubling up between a couple represents a significant investment and tax-saving opportunity. But it’s not possible to carry over any unused allowance from year to year, so it’s important to use as much of this annual ISA allowance as possible before the end of the current financial year on 5 April. Given that the average ISA subscription is just over £6,4008, there is clearly scope for many savers to make more of their annual tax break.

For very young savers, the opportunity to invest on their behalf in a Junior ISA before the end of the tax year shouldn’t be overlooked either. The allowance for each child in this tax year is £4,368 and, whilst it must be set up by a parent or guardian, anyone can pay money in.

Just like a standard ISA, there is no tax to pay on any income or gains, while the funds cannot be accessed until the child reaches 18 years old. It’s therefore a fantastic, long-term opportunity to build wealth for their future. Yet, of the £4.1 billion held in Junior ISAs, 55% of the funds are deposited in cash9 – surely not the best option for children with such a long-term investment horizon.

ISAs: Five steps by 5 April

  1. Your ISA allowance is £20,000 and if you don’t use it, you’ll lose it.
  2. Remember your Personal Savings Allowance when considering your cash strategy.
  3. Review existing ISAs – could they be working harder for you?
  4. Consider an ISA regular savings plan if you’re worried about market volatility.
  5. Invest in a Junior ISA to give younger family members a head start.

Past performance is not indicative of future performance.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select, and the value can therefore go down as well as up. You may get back less than you invested.

An investment in equities (funds) does not provide the security of capital associated with a Cash ISA or a deposit account with a bank or building society.

The favourable tax treatment given to ISAs may not be maintained in the future as they are subject to changes in legislation.

1,2,3,4,8,9 HMRC, Individual Savings Account (ISA) Statistics, April 2019

5,7 Moneyfacts, January 2020

Office for National Statistics, January 2020

Find out more

Peter Ward is a Financial Adviser who helps individuals in various stages of life and with widely differing financial backgrounds, by providing highly personalised, face-to-face financial advice. He provides holistic financial advice, and is particularly passionate about pension planning, as for most people “their retirement will be the longest holiday of their life, and so they owe it to themselves to plan for it as best they can”. Peter has two young children, so understands the financial pressures that come with parenthood, and the care required to balance today’s needs with those of tomorrow.

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