ISAs – An investment chameleon

A chameleon

ISAs are popular

Adults in the UK invested a total of £67.5 billion into ISAs in 2018/2019 according to the latest Government statistics published in June of this year. An ISA offers an overall subscription limit of £20,000 for the tax year 2020/2021, so that a married couple or civil partners could jointly save or invest £40,000 each year into their ISA accounts. There is no requirement to declare income or gains from an ISA on a tax return.

The statistics also show that 76% of ISA holders currently have a Cash ISA. This is at a time when the best easy access Cash ISA rate is less than 1.0% and the best fixed term Cash ISA rate is just 1.4%. Is it possible that a large percentage of the UK population does not realise that ISAs are not one size fits all and that they are actually investment chameleons? Let’s have a look at those different forms of ISA.

CASH ISAS


Cash ISAs are effectively tax-free deposit accounts and are provided by banks, building societies and National Savings & Investments.  You have to be 16 or over to open a Cash ISA. As with all cash deposits Cash ISAs suffer from the effects of inflation.   

In addition, they may not provide a tax advantage if an individual’s total interest income is below the Personal Savings Allowance (£1,000 for basic-rate tax payers and £500 for higher-rate tax payers).  They can be a useful account for holding a person’s emergency or rainy day fund.  

STOCKS & SHARES ISAS


Stocks & Shares ISAs are also tax-free. You have to be 18 or over to invest in a Stocks & Shares ISA. The name may be off-putting for some but you don’t have to invest these just in funds of stocks and shares. By incorporating different percentages of fixed interest funds, property funds, commodity funds and cash the risk can be adjusted on a scale which goes from aggressive right down to ultra defensive. The tax on interest from deposits and fixed interest funds is automatically reclaimed by the ISA manager for the ISA holder’s benefit and dividends are paid gross.  Stocks & Shares ISAs also protect investments against capital gains tax.  

There are many professionally managed ISA portfolios to choose from. My own Stocks & Shares ISA account has achieved an annual average compound growth of 6.6% over the 10 years to 10 October 2020. This includes a healthy 10.10% over the last 12 months notwithstanding Covid. I should add that until recently I had invested in an adventurous portfolio. However, my wife who invests in a lower risk balanced portfolio has also achieved 6.03% pa over the same period including 8.18% over the last 12 months. Please note, however, that past performance is not a guarantee of future performance.  

STRUCTURED INVESTMENT ISAS


Structured investments are commonly offered by insurance companies and banks. Your money typically buys two underlying investments, one to offer a measure of protection for your capital and another to provide the bonus. The return you get depends on how the stock market index, typically the FTSE 100, or other measure performs. In addition, if it performs badly, or the bank providing the underlying investments fail, you might lose some or all of your original investment.  

With a standard Structured Investment ISA, you will normally be required to agree to lock your money away for a term of between 3 and 6 years.  

If you want your Structured Investment ISA to be linked to an index, but don’t want to risk potentially losing money, a Structured Deposit ISA can be a good choice. With this type of product, the amount you earn in interest is still based on the FTSE 100 or an equivalent, but if the value of the index goes down over the term of your deposit, you simply earn no interest – your original deposit is always protected.  

The potential rewards are higher with a Structured Investment ISA where your deposit is not protected.  This means that if the chosen index goes down over the term of the investment you can lose some of your original investment.  

INNOVATIVE FINANCE ISAS


Innovative Finance ISAs invest in peer-to-peer loans. Peer-to-peer lending matches up investors, who are willing to lend, with borrowers, who could be individuals, businesses, or property developers.  

Your investment, that is the money you loan, is through an online portal rather than a bank and interest rates are able to be higher than traditional savings accounts. Unlike a bank, however, there is no £85,000 FSCS protection if the portal fails and you could lose everything you have deposited.  Innovative Finance ISAs should only be used, therefore, if the total loss of the money you are to deposit would not affect your standard of living.  

JUNIOR ISAS


Junior ISAs are long-term, tax-free savings accounts for children under 18 and living in the UK.  They can be either Cash or Stocks & Shares ISAs and the annual limit for 2020/2021 is £9,000.   

The child cannot access the funds in the account until they are 18 but they can start managing their account on their own from age 16. Those age 16 and 17 can also invest up to £20,000 into a Cash ISA at the same time as £9,000 into a Junior ISA.   Those with the former Child Trust Funds can convert these into Junior ISAs. A child cannot have a Junior ISA as well as a Child Trust Fund.   

LIFETIME ISAS


Lifetime ISAs are longer term tax-free accounts for those aged 18 to 39.  Up to £4,000 each year can be saved or invested in a Lifetime ISA (cash or stocks and shares) potentially payable until the investor is age 50. This limit, if used, will form part of the overall annual ISA limit.  

The product benefits from a 25% government bonus on the amount saved, which is therefore up to £1,000 each year.  In the first year only, the bonus is paid at the end of the tax year, after which it is paid monthly.

Investors can use their Lifetime ISAs to help buy their first home (subject to a maximum purchase price of £450,000).  It can also be used to save for retirement, with tax-free access from age 60. Those with a previous Help to Buy ISA can transfer the funds to a Lifetime ISA.  

Money can be accessed at any time for any other reason, although this incurs a 25% charge unless the saver is in serious ill-health.  This more than cancels out the government bonus paid on that amount.  

APS ISAS


Additional Permitted Subscription (APS) ISAs have a very specific function. They allow the surviving spouse or civil partner of an ISA investor who died on or after 3 December 2014 to have a one-off ISA allowance equal to their late partner’s ISA holdings on top of the annual ISA subscription limit.  

Whereas a person’s ISA holdings used to end on death they can now be passed, still within a tax-free ISA, to their widow/widower. This is particularly useful when, for example, a widow, is not sure how much income she will need now she is on her own.  Her late husband’s ISAs can provide a valuable additional tax-free income.  

AIM ISAS


AIM ISAs invest in the AIM (Alternative Investment Market) which consists of companies which are not ready or big enough to be listed on the main stockmarkets. The investment is therefore much higher risk that a typical Stocks & Shares ISA.  They are particularly useful for elderly people whose estate is likely to suffer from inheritance tax on their death.  

Of course such people could simply pass assets to their children, grandchildren or other family members and hope to live seven more years to reduce their inheritance tax bill. However, where it is unlikely they will survive another seven years AIM ISAs have the appeal of being exempt from inheritance tax after just two years. This is because they benefit from Business Property Relief.  

ETHICAL ISAS


OK I am stretching my argument here as there is not a separate ISA category called an Ethical ISA. I just wanted to make the point, however, that you can invest into ethical funds, or better still, an ethical portfolio, via an ISA.  

Thus you can do some good in the world with your investment and at the same time pay no tax on the income or growth it produces.  
I have added a new section to my website Helpful input from others on investing. If you come across thoughts on investing or an investment article elsewhere which you find helpful please let me know so I can add a link from my website.

Arthur Childs

Leave a Reply