Save And Earn

Making Your Money Go Further

Are You Making the Most of Your Annual ISA Allowance?

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savings isasIn just a few weeks, on April 5th, 2023, the financial year will come to a close. This means that if you want to take advantage of your 2022/23 ISA allowance, now is the time to act.

An ISA, or Individual Savings Account, is a savings and investment product that allows you to earn interest, dividends, and capital gains tax-free. Think of it as a tax-free “wrapper” that can be applied to a wide range of financial products.

While ISAs do not provide the same government contribution in the form of tax relief as pensions, they do offer more flexibility. With the exception of the Lifetime ISA, you can withdraw your money at any time, subject to any rules about the term and notice period required, and you won’t be taxed on it.

Everyone has an annual ISA allowance, which is the maximum amount you can invest in ISAs for that year. This year, the allowance is a generous £20,000.

There are four main ISA categories: Cash ISA, Stocks and Shares ISA, Innovative Finance ISA (IFISA), and Lifetime ISA (LISA). You can divide your £20,000 ISA allowance among these in any way you choose, though the most you can invest in a Lifetime ISA in a year is £4,000. Note also that you are only allowed to invest in one ISA in each category per year.

Let’s take a closer look at each type of ISA:

Cash ISA

Cash ISAs are similar to standard savings accounts, except the interest you receive is tax-free. While interest rates for cash ISAs have been rising over the last few months, they are still relatively low. With inflation currently running at 10.1%, that means even in the best-paying cash ISA your money will still be losing spending power when invested this way.

Additionally, the Personal Savings Allowance (PSA) means that basic-rate taxpayers can earn up to £1,000 in savings interest without paying tax anyway. Higher-rate taxpayers get a £500 tax-free allowance, and additional-rate taxpayers earning over £150,000 a year receive no allowance at all.

Moreover, you can actually get higher rates of return from instant-access accounts that are NOT cash ISAs. As a result, cash ISAs have lost much of their appeal, unless perhaps you’re in the relatively small group of people who have to pay interest on their savings. But if interest rates continue to rise, they may of course become more attractive again. In addition, money invested in a cash ISA remains tax-free year after year, so if in years to come interest rates on cash ISAs rise, the benefit of having money in one will increase as well.

Stocks and Shares ISA

Stocks and shares ISAs are a good choice for many people saving long term. Over a longer period, the stock market has outperformed bank savings accounts, often by a considerable margin. However, you do have to expect some ups and downs in the value of your investments in the short to medium term.

You can opt for a standard stocks and shares ISA offered by a wide range of financial institutions and let them choose your investments for you. Alternatively, you can use self-investment platforms such as Hargreaves Lansdown to choose your own investments from the wide range of shares and funds available.

In recent years, many people have invested much of their annual ISA allowance in a stocks and shares ISA with Nutmeg, a robo-manager service that has produced very good returns for some investors.

Innovative Finance ISA

IFISAs are on offer from a growing range of peer-to-peer (P2P) lending platforms. P2P platforms allow people to lend money to businesses and private individuals. All interest earned from P2P lending within an IFISA is tax-free. IFISAs generally offer higher interest rates than savings accounts or cash ISAs, ranging from 3% to 12% or more. However, P2P lending is riskier and may result in delays or additional charges if you need to withdraw your money urgently.

Lifetime ISAs

LISAs were launched by the government to encourage younger people to save, but only those under 40 are eligible. LISAs have one significant drawback: if you withdraw the money before the age of 60, you may lose the government bonus and face a withdrawal penalty.

In conclusion, it’s essential to use your ISA allowance before the end of the financial year. Depending on your risk tolerance, long-term savings goals, and financial situation, different ISA options may suit you. However, it’s crucial to consider the pros and cons of each ISA category before making an investment decision.  However, other schemes are available and some may have better returns like the Help to Save scheme if you are eligible.