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All you need to know about ISAs

Individual savings accounts can offer an attractive tax-free shelter for savers

08 February 2019, at 2:17p.m.

With standard bank and building society savings accounts, taxpayers can be liable to pay tax on any interest earned on their money. This will depend on their total income from interest payments and their other taxable earnings in that tax year. It is worth noting that from April 2016, interest payments are now paid gross and taxpayers are liable for accounting for this on an individual basis.

On 6 April 2016, a tax-free Personal Savings Allowance (PSA) was also introduced for savings income (such as interest) paid to individuals. Broadly, this means that basic rate tax payers will be able to receive up to £1,000 of savings income, and higher rate taxpayers can receive up to £500 of savings income, without any tax being due. The PSA is not available to any saver with additional rate income.

With regards to investments, tax will usually be liable on the income and profits made from investments in the stock market, like company shares or unit trusts. However, ISAs serve as a kind of “wrapper” to protect savings from tax. ISAs allow individuals to invest monies up to maximum limits (by way of regular or single amounts) each tax year in a range of savings and investments and pay no personal tax at all on the income and/or profits received.

The main benefits of ISAs are:

  • No personal tax (income or capital gains) on any investments in ISAs
  • Income and gains from ISAs do not need to be included in tax returns
  • Money can be withdrawn from a standard ISA at any time with no loss of tax breaks

ISA/NISA maximum contribution limits

After 30 June 2014, ISAs were renamed new ISAs, or NISAs. To save confusion, I have referred to ISAs throughout this article as the regulations remain the same. The overall maximum contribution limit to an ISA is £20,000 (for the tax year 2018/19). Adults can invest up to £4,260 for the benefit of a child in a Junior ISA.

The basics of how ISAs work

There are two types of ISA: cash – usually containing a bank or building society savings account, and stocks and shares – in the form of either individual shares or bonds, or pooled investments such as open-ended investment funds or investment trusts. The term Stocks and Shares ISA can be deemed slightly opaque and it would more accurately be known as an investment ISA; this form of ISA can also hold assets that are not shares – such as Government Securities (Gilts).

All your allowance can be invested in stocks and shares or split between cash and stocks and shares with either the same or a different provider. You can only invest in one cash and/or stocks and shares ISA in any tax year. You can transfer money saved in previous years’ cash ISAs to stocks and shares ISAs (or transfer in the opposite direction) without affecting your current year’s allowance.

Help to Buy ISA

If you are saving for your first home, you can save into a Help to Buy ISA, which is a type of cash ISA with additional tax benefits, although the investment limits are more restricted than a standard cash ISA. If you are saving into one of these, you cannot pay into another cash ISA in the same tax year.

Lifetime ISA

Lifetime ISAs (LISAs) are available to anyone aged between 18 and 40 with a £4,000 limit; this forms part of the normal ISA subscription of £20,000. The government will add a 25 percent bonus on the contributions paid. Contributions with the government bonus can be made from age 18 to age 50. LISA funds (including the government bonus) can be used to buy a first home up to £450,000 at any time from 12 months after opening the account. Any withdrawals not related to a first property purchase can be made but, if the saver is below age 60, the government bonus will be lost, and a 5 percent charge will be payable. Savers will be able to contribute to one LISA in each tax year, as well as a cash ISA and a stocks and shares ISA within the limits.

Taxation

Any investment returns received will be largely tax free, although the tax credit on dividend income received by the fund is not recoverable. However, cash and fixed interest funds are deemed to receive interest rather than dividends and a 20 percent tax credit is recoverable. There is no personal tax on income taken and no capital gains tax on any gains made.

Qualifying investors

To be eligible to invest in an ISA, an investor must be an individual (ie not a company or trustee) who is 18 years of age or over (though 16- and 17-year-olds can invest up to £20,000 in a cash ISA and up to £4,260 in a Junior ISA) and who is resident and ordinarily resident in the UK (or is a crown servant serving overseas or the spouse of such an individual who accompanies their spouse abroad).

When an individual ceases to be eligible to invest in an ISA, any existing ISAs will continue to be exempt from UK tax, but future contributions to regular investment ISAs must be terminated and no further single contributions may be made.

Stakeholder Standard ISAs

Stakeholder Standard ISAs are those which meet government guidelines regarding cost, access and terms. Both types of ISA component can qualify for a stakeholder standard. The cost limit varies with each investment type and the access and terms criteria specify that investors must be able to get their money back at any time without penalty and with no other restrictions. The ISA must also offer low minimum investment limits and a maximum of 60 percent can be invested in equities and property, with the remaining 40 percent in less volatile assets such as bonds and cash.

Because of these limits, Stakeholder Standard stocks and shares ISAs are designed to meet the needs of a wide range of investors. They may, therefore, be less appealing to more experienced investors who want to maximise their long-term growth potential and so are more likely to seek specialist investment funds.

The presence or absence of a Stakeholder Standard cannot predict whether an ISA will prove to be a good or bad investment. A Stakeholder Standard ISA has not received government approval of any kind, nor is your money or investment return guaranteed by the government.