ISAs can offer a smart way to save or invest. Here’s how

7 min | 25 April 2022

The Chase team

It's never too late to get on top of your long term savings, and an individual savings account (ISA) can be one of the easiest ways of doing more with your money. But what exactly is an ISA, and with all the different types out there, which ones could be right for you?

An ISA is a type of account that offers an efficient way to save or invest because you won’t pay tax on any interest or investment growth. You can choose a cash ISA, or a stocks and shares ISA, which can be invested in a wide range of shares, funds, bonds and other types of investments. Investments should be seen as something for the medium to long term and, although you can generally withdraw your money at any time, you should seek to invest for at least five to six years. The value of investments can go down as well as up, and you may not get as back as much as you invested.

There are limits to the amount of money you can put into your ISAs each tax year – in the current 2022/23 tax year, it’s £20,000 for an adult. The limit applies as a total across all ISA products, so if you put £4k in a LISA (Lifetime ISA), you are left with £16k to go into a cash or stock and shares ISA.

Why consider having an ISA?

The reason this type of account is worth considering is that the contribution amounts are cumulative, so if you're lucky enough to be able to use the full ISA allowance each year for say, 3 years, that £60k is saved/invested and any increase from interest or investment growth usually remains within the ISA and receives further interest or potential investment growth, subject to market movement. Even if you can't afford to use your full ISA allowance but can put aside £1,000 a year, over time, these amounts add up. Only put in what you won't miss, if that £1,000 is the difference between paying for any of your living expenses or not, pay the bills first.

The right ISA for you really depends on what you’re after, and you might find a combination of more than one type works best. Depending on your provider, you can often specify socially responsible investments as part of your stocks and shares ISA for example, these take into consideration environmental and social concerns.

Some types of ISAs are bound by rules imposed by HMRC on when you can take money out too. Here’s a rundown of the main types:

1. Cash ISA (annual limit: £20,000)

A cash ISA is the most common, and it’s similar to your normal savings account (except you don’t pay tax on any interest you might earn in an ISA). You can open one cash ISA per tax year but can also transfer money from another ISA to a different provider if you want. You can transfer ISAs taken out in previous years any time you want and amalgamate them. 

Your £20,000 allowance is only good for one tax year and if you don’t use all of it you can’t carry it over to the following year.

2. Stocks and shares ISA (annual limit: £20,000)

This one is a little more complex than the cash ISA because your money is invested. It does come with some higher risks than a cash ISA, but also the chance of higher returns. You can transfer money from a Cash ISA into a stocks and shares ISA.

You can invest in a wide range of shares, bonds, and funds, and just like the cash ISA you can put in up to £20,000 each tax year and any investment growth you make is tax-free. Bear in mind you’ll usually pay some fees with this type of ISA.

3. Lifetime ISA (annual limit: £4,000)

A lifetime ISA (LISA) can be ideal if you’re saving for your first home (the property will need to cost £450k or less and you'll need to be buying with a mortgage), or retirement. You have to be between 18 and 40 when you open one and the government will give you a bonus of 25% on any deposits made in that tax year (up to a maximum of £1,000 per year until you’re 50). You can take the amount you’ve built as a tax-free lump sum when you get to 60 if you don’t end up using it towards a home. But you can’t withdraw any money from your LISA for a minimum of one year after opening it – and if you withdraw before you’re 60 and don’t use it to buy a house, you’ll pay a 25% penalty on the full amount you are withdrawing, which means you can end up with less than you put in.

4. Innovative finance ISA (annual limit: £20,000)

If you’re ready to take some risks, an innovative finance ISA (IFISA) uses your money to lend to borrowers or businesses (known as ‘peer-to-peer’ lending). The borrower then pays back the money you’ve invested at a rate that’s generally higher than you’d get with your regular bank. The downside is the risk of the borrower not being able to pay back their loan, meaning you may not get back what you put in. There’s also no protection from the Financial Services Compensation Scheme if you do lose money.

5. Junior ISA (annual limit: £9,000)

A Junior ISA (JISA) can be a great way to save for children aged under 18 (when they turn 18 the JISA can be converted to an adult ISA). There are cash JISAs or a stocks and shares option, and they can be opened either by parents, or the children themselves from the age of 16.  Cash JISAs also tend to come with higher interest rates than adult ISAs, but there are some restrictions (for example, you can only have one at any one time with any provider). And if you’re contributing to someone’s JISA, it won’t affect your own personal ISA allowance as any contributions are a gift and the child is the beneficial owner.

Four ways to help make the most of your ISA

  1. If you've a cash ISA, start saving into your ISA at the start of the tax year if you can – that way your cash will benefit from the time and tax advantages straight away
  2. If interest rates are low you might want to consider a stocks and shares ISA. These can give you the chance to earn a higher rate over the long term, but remember they are more risky and you could get back less than you initially invested
  3. Whichever option you go for, try to use your full allowance every year, and not make any withdrawals
  4. Think about whether putting your annual allowance into different types of ISAs could be a good option

Putting your spare cash in an ISA and making the most of the tax breaks can help you plan for the future, whether it’s for your children’s education or your retirement nest egg. 

Disclaimer: This article is for information only and does not constitute financial advice. Tax treatment depends on your individual circumstances and may be subject to change in the future. We do not offer any tax advice.

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