Investing Basics: ISA or a LISA?

As the new tax year dawns, it is important to ensure that the ISA wrappers you intend to save or invest in, deliver the right combination of returns, flexibility and access for your needs – by Hannah Barnaby

 
In this article we compare a standard individual savings account – ISA – with a lifetime individual savings account – LISA – but actually you can have both; in fact in any one tax year you can contribute to four different types of ISA wrapper – cash, stocks and shares, LISA and an IFISA (innovative finance ISA).

Launched in 1999, the most basic individual savings account is a cash ISA, which is essentially a savings account in which your income and capital gains are protected from the tax-man.
Cash ISAs waned in popularity when the Personal Savings Allowance was introduced in 2016, allowing basic-rate taxpayers to receive £1,000p.a. of interest before paying tax; however, rising interest rates saw them resurgent as many more people found themselves paying tax on their savings.

These tax-free wrappers are a good place to build a rainy day fund, or for short term savings, where you may need your money in the next five years; an easy-access cash ISA provides quick access to your funds, whilst a fixed-rate ISA will deliver a guaranteed return of interest For those with longer-term financial goals – five years or more – a stocks-and-shares ISA may be a better option; while this does involve some investment risk, small sums saved diligently over a long period, can really start to add up.

Introduced relatively recently, the lifetime ISA – with cash or stocks-and-shares variants – is designed to help those aged under 40 save for a first home; with an annual contribution limit of £4,000, the government adds a 25% bonus to your savings– up to £1,000 p.a. The small print dictates that you can only use a LISA to fund your first house purchase (up to a maximum of £450,000), or draw on the money at age 60; those using the money for anything else will forfeit the bonus and face a penalty.

You can only pay into a LISA if you are aged between 18 and 50, and you need to have set up the account by the age of 40; it is really only to be used for that first house purchase (where the cap can be a challenge) or for retirement – although you may be better off paying more into your workplace pension.

Annual contribution limits apply to all types of ISA and will be frozen at £20,000 in the coming tax year; a LISA counts towards the overall limit, and a flexible ISA may help those with more complex requirements.

The ‘use it or lose it’ annual allowance would allow you, for example, to save £5,000 into a cash ISA, invest £10,000 into a stocks-and-shares ISA, £4,000 into a LISA, and £1,000 into an IFISA.

From 6 April, rules will change as part of a simplification of the system; you will be able to open – and pay into – multiple ISAs of the same type in one year (excluding LISA), delivering more flexibility with regard to how you use your allowance.

When weighing cash ISAs vs LISAs the most suitable will be down to an individual’s circumstances; how long you want to save for, and what are your goals.

For more information on all types of ISAs head to the Government website, here.