Everything you need to know about ISAs

A cash ISA provides a fixed rate of interest, making it easier to plan your savings for “immediate needs”, but returns are often below the rate of inflation, making it “an expensive trap for long-term savings”, Dan Howe, of Janus Henderson Investors, told the Daily Express.

Stocks and shares ISAs: This kind of ISA lets you invest in stocks, bonds, funds, and some other investments tax-free through stockbrokers, financial advisers and fund supermarkets.

Where cash ISA returns are limited by the interest rate on offer, a stocks and shares ISA has the “potential for actively growing your money over time to beat inflation”, said Unbiased.co.uk. This does come with increased risk, as you can also lose money by investing and it may be hard to time when is best to make withdrawals, the financial website said.

Innovative finance ISAs: Peer-to-peer (P2P) investors, or people who take loans directly from other people rather than financial institutions, can put their loans into what’s known as an innovative finance ISA (IFISA).

An IFISA offers higher interest rates than a cash ISA, but risks include “borrowers defaulting and the P2P platform not having an adequate contingency fund”, said Forbes. Unlike a cash or stocks and shares ISA, the IFISA isn’t protected by the Financial Services Compensation Scheme if a provider goes bust, so you could lose all your invested funds.

Lifetime ISA: A lifetime ISA (LISA) is a dedicated tax-free savings account to help you save for a mortgage deposit, or put towards your pension. Users can contribute up to £4,000 a year until age 50, and the government adds a 25% bonus up to a maximum of £1,000 a year.

You can only withdraw your money if using it to buy your first home (eligible on purchases worth up to £450,000), are aged 60 or over, or become terminally ill with 12 months to live, according to government rules. There is a 25% withdrawal charge if you take the money out for any other reason.

A 25% bonus on top of your savings sounds very attractive, said MoneyWeek, but “the key is to work out how you would feel if you weren’t able to buy your first home with the money, for example because the property you ultimately buy costs more than £450,000”. In this case, your money would be inaccessible until you hit 60. “If you withdrew the money earlier, the exit penalty would kick in,” the site added.  

You can choose between a cash LISA or an investment LISA, and the £4,000 comes out of the annual tax-free allowance.

Junior ISA: ISAs aren’t just for adults. You can put up to £9,000 per year – separate to your own allowance – into a tax-free cash or stocks and shares junior ISA to build a nest egg for your child.

Your child can only withdraw the money when they turn 18. Ultimately, said FTAdviser, it is up to the child how they spend those funds once they reach adulthood, which may be seen as a blessing or a curse.

Flexible ISAs: Some providers will let you withdraw money from an ISA that has been contributed in the same tax year without losing the tax-free status, so long as those funds are replaced before the year-end. This is known as a flexible ISA. “Certain life events can make this flexibility attractive”, said Investors Chronicle.

Article source: https://www.theweek.co.uk/business/personal-finance/958786/everything-you-need-to-know-about-isas