Ever heard of an ISA? A little confused? Here’s the post for you.
ISAs - Individual Savings Accounts, are schemes set by the government for people to hold their cash, savings and investments in, tax-free. The thing is, there are different ISAs for different purposes and to hold different types of assets. Different ISAs can be opened in different places: banks, investment platforms, P2P platforms. In total, there are 6 types of ISAs.
There’s a limit to how much you can contribute to each one every year. However, if you add up every single contribution to different ISA, the total should not be larger than the limit of £20,000 as of 2017/2018. Make sure to remember!
Let’s tackle ‘em:
Types of ISAs
Cash ISA
A Cash ISA is basically a normal savings account, except you don’t pay any tax on the interest you earn (yay!). You can contribute a maximum of £20,000. You open an ISA in a bank and treat it like a simple savings account.
Within the Cash ISA, you have 3 types of accounts:
Instant access Cash ISA: you can pay in and withdraw money at any time you want during the year.
Fixed-rate ISA: this ISA locks away your money for a specific period, normally one to five years. In return you get a pretty sweet higher interest rate (usually around 1%)
Regular savings ISA: you get paid a fixed rate of interest over a specific period (normally a year) as long as you make a regular monthly contribution and don’t pass the £20,000 limit.
Here’s a cool comparison table from Which? to find the banks with the best Cash ISAs.
Stocks and Shares ISA
A Cash ISA is like a tax-free savings account. A Stocks and Shares ISA is a tax-free investment account.
This is the investment vehicle you use when you get started with investing. You go on the investment platform or broker you’re using and open your ISA there. Once again, your contribution limit is £20,000.
Since you’re investing, the interest rate will be higher, but as we all know with investing: your capital is at risk. The value could go down as well as up. It’s more risky, but the returns are muuuch sweeter.
In total, you’ll get tax free earnings on: dividend income, capital gains and interest from your stock and bond investments.
Related: Guide to getting started with investing
Innovative Finance ISA
This ISA is pretty new and is great if you’re into peer to peer lending. For every £4 you contribute, the government will add a £1 bonus (so a 25% bonus) to the maximum of £4,000. Meaning you get a nice little annual bonus of £1,000.
You simply go onto a P2P platform such as Ratesetter, Zopa and Funding Circle and open up an Innovative Finance ISA. You can also use this ISA to lend to businesses, property and crowdfunding. It is a little more risky, but you get returns between 4-10%. Not bad.
Help to buy ISA
A great ISA for first time buyers. For every £200 contributed to the ISA, the government will add an extra £50 for the deposit of your first home, up to the maximum of £3,000. You simply go to your bank and ask them to open a Help to buy ISA for you.
Thing to remember is, you can’t contribute to a Help to Buy ISA as well as a Cash ISA.
Lifetime ISA
Another ISA that allows you to save, tax-free, for you first home or for retirement, available only for under 40s.
For every £4 you contribute, the government adds a £1 bonus to a maximum of $4,000. So if you contribute £4,000, you’ll get £1,000 of free money. You keep receiving this bonus until you hit the age of 50. Helps build that little retirement nest egg.
You can then take out the money tax-free once you reach retirement or once you decide to buy your first home.
Junior ISA
This is basically a child’s version of a tax-free savings account. It can either be a Junior Cash ISA or a Junior Stocks and Shares ISA.
The parents, grandparents and friends can put money into a Junior ISA every year, up to £4,128. It’s locked away, but once the child reaches 18, the junior ISA turns into a normal adult ISA. Snazzy for the kid.
Allowances
So as you can see these are all quite different types of ISAs. You can contribute to one or you can have several. Here’s an example.
Jimmy (Financially Mint’s super example man) wants to start saving for a house and investing in the future. He opens up a Help to Buy ISA and contributes £3,000 in the year 17/18. He now has £17,000 left to put in a Stocks and Shares ISA.
What happens to my allowance when I withdraw? This depends on whether you have a flexible ISA or not.
With a non flexible ISA, your allowance stays the same even if you withdraw. With a flexible one, you get to replace what you withdraw. Here’s another example:
Emma contributes £20,000 in 17/18 into a non flexible ISA. After the tax year ends, she withdraws £5,000. But in the tax year 18/19 she will still only be able to contribute £20,000. Meaning she could only reach a maximum of £35,000 in those two years instead of the £40,000 if she hadn’t withdrawn.
Mary contributes £20,000 in 17/18 into a flexible ISA. She withdraws £5,000 after the tax year ends. Tax year 18/19, she can contribute back her £5,000 PLUS the £20,000 of her 18/19 allowance. So effectively, she can contribute £40,000. Very cool.
So yes, flexible ISAs are way better, but not all platforms and banks offer them. Make sure you check with them before opening one.
Students: which do I use?
As usual, it depends on how soon you need your money and how much risk you are willing to take.
Stocks and Shares ISA is great for the long term: you get around 7% interest and you’ll build a nice nest egg over time. Great for retiring early and emergencies. A Cash ISA is for the money you need immediately and that you’re not willing to take risks with. Innovate Finance ISA is if you’re willing to take it a step further and try some different kind of investing (good for your financial education).
The other ISAs have more specific goals in mind: retirement, first house, child. Usually not the biggest thing on a college student’s mind. If you’re first starting out with ISAs, I recommend starting with a Cash ISA in your bank. From there, you can then learn some more about investing and get started with your Stocks and Shares ISA or your Innovative Finance ISA. Take it step by step, you’ll be learning a lot on the way. Oh and earning some pretty sweet tax-free money.
Another piece of advice: don’t go with a bank just because your family’s using it. The famous and popular ones are usually the ones with the worst interest rates (I see you RBS) and highest fees. Do some shopping around! MoneySavingExpert, MoneySupermarket and Money.co.uk are your friends.
Do your research and get started - it’s kinda exciting opening your own ISA and telling people ‘yes I have an Innovative Finance ISA what about you?’. Relish their confused faces.
And here’s a cool infographic to make sure you get it:
