Individual Savings Accounts (ISAs) have been around in one form or another since 1999 but have grown from the original two types of ISA to the current roster of five. They are a really important tool in our Financial Planning tool kit and are often underestimated
Here we break down the different types of ISA available to you, your allowance that is available with each ISA and some simple pros and cons of each.
Cash ISA
Pros: A good tax-efficient way to save money.
Cons: Lower returns compared to investment ISAs.
Allowance 2021/22: £20,000 in combination with S&S and Cash
Cash ISAs are the most popular. Put simply, they are savings accounts that allow you to save money without paying tax on the interest you earn. You can pay in a lump sum or add money whenever you want, as long as you don’t go over the current tax year’s annual allowance.
It means that whatever you’re saving for, whether it’s a rainy day fund or if you have a more specific financial goal in mind, a Cash ISA is a tax-efficient way of growing your savings.
Due to interest rates being so low at the moment we don’t often see these used for wealth creation but rather for a holding place for emergnecy funds or for short term projects.
Stocks and Shares ISA
Pros: Potential to enjoy higher returns.
Cons: Investments can go down as well as up in value.
Allowance 2021/22: £20,000 in combination with S&S and Cash
A Stocks and Shares ISA is a great way of investing in the greatest companies in the world with our the taxman getting his hands on your profits.
By investing in a diversified portfolio of equities, bonds, property and other asset classes you can, over time, achieve a greater return than you will with Cash ISAs.
The flexibility of ISAs make them a great tool for accessing income or lump sums for a variety of uses in life. We’ve had client use their ISAs to fund property moves without selling first, provide inheritance to their children at important times in life and also simply draw income every year to fund holidays.
Your returns are safe from the taxman and you can choose to either pay in a lump sum or spread your payments throughout the year, as long as they don’t exceed the current year’s ISA allowance.
Of course as you’re investing in the stock market, whilst there is the potential for greater returns over time, the value of your investment can go down as well as up.
It’s why a Stocks and Shares ISA may only be suitable if you don’t need immediate access to your money.
Lifetime ISA
Pros: The 25% government bonus makes it a great way of saving for your first home or for retirement.
Cons: Less flexible than other accounts.
Allowance 2021/22: £4,000
A Lifetime ISA could be ideal if you’re saving for either your first home or planning ahead for your retirement. As an added bonus, the government will boost your savings up to £1,000 tax free every year on top of any interest you earn.
If you’re aged between 18 and 39-years-old you can open a Lifetime ISA and save up to £4,000 each tax year. The government will then add a 25% bonus to your savings, paid monthly, up to a maximum of £1,000 each tax year. The £4,000 counts towards your overall annual allowance, so if you have extra money spare you can make payments into any other ISAs.
Whilst the 25% bonus from the government can seem like an attractive offer, a Lifetime ISA is less flexible than other types of ISAs.
Payment into the account can continue until the age of 50, after which the account will remain open, but you can’t add any more money. Once you reach 60, your savings can be used for any purpose, but if you’re under 60 and want to withdraw money for any reason other than buying your first house, you’ll be hit with a 25% charge on the amount that you decide to withdraw.
These can be invested in Stocks and Shares or Cash depending on your risk tolerance and preferences.
Innovative Finance ISA
Pros: Can provide a higher rate of interest than other types of ISA.
Cons: Savings aren’t covered by the Financial Services Compensation Scheme (FSCS).
Allowance 2021/22: £20,000 in combination with S&S and Cash
If you’re looking for a savings account that has the potential to provide you with a higher rate of interest compared to others, an Innovative Finance ISA could be right for you.
You can invest some or all of your annual allowance, and any interest that you receive is tax free.
Innovative Finance ISAs are unlike other ISAs; they work by letting you lend money to individuals and businesses that are looking to access finance in return for a set amount of interest, based on how long you’re prepared to leave your money untouched.
The investment is completed via a peer-to-peer lending platform, rather than through a bank or building society, and therefore you can benefit from savings which are passed on in the form of higher returns and lower fees.
Because of this, an Innovative Finance ISA works like a loan, meaning there’s a chance that borrowers could default on their repayments, and whilst most companies offering Innovative Finance ISAs will have a backup reserve fund set aside to protect your money should this happen, unlike most normal UK savings accounts, they’re not covered by the FSCS and as such, they carry a high degree of risk.
As with any form of investment, the value of your savings can go down as well as up, meaning an Innovative Finance ISA can be a more risky option.
Junior ISA
Pros: A great way to build up a nest egg for your child.
Cons: Savings are locked away until your child reaches 18.
Allowance 2021/22: £9,000
We all want the best start in life for our kids and a Junior ISA could be the ideal way to save for your children’s financial future, helping ensure they have a nest egg set aside for when they reach adulthood.
A Junior ISA is a long-term savings account for children under the age of 18 which allows you to invest up to the Junior ISA allowance for each year (£9,000 for the current tax year).
You can choose a Junior Cash ISA, a Junior Stocks and Shares ISA or split your contributions between the two, as long as you don’t exceed the annual allowance. Don’t forget that if you invest your money in a Junior Stocks and Shares account, as with the adult version, the value of your savings can go down as well as up.
Once it’s been set up by a parent or guardian, anyone can pay into it, but only the child can access the money once they turn 18. If they decide to keep the account open after that, it will turn into a full ISA with the standard annual allowance.
