ISA Investing –Join ‘the Club’
With the ISA deadline looming, DIY Investor explains the basics and benefits of the tax efficient wrapper.
When the mercury starts to rise and the parks and gardens burst into life the DIY investor knows that its ‘ISA season’.
However tempting it may be to dismiss the customary late flurry in the run up to the end of the tax year as a marketing exercise by platforms and product issuers, the ISA has a vital role to play in any long-term investment strategy and once the calendar shows 6th April, that 2018-19 allowance will be gone forever.
Once the preserve of an elite group of stock pickers, the ‘ISA Millionaires Club’ has been expanding of late – due in part to above-inflation increases in subscription levels; investors can shelter £20,000 in the current tax year with total flexibility around the combination of cash and stocks and shares.
‘an investor making the maximum subscription each year and achieving a 7% return after fees could achieve a pot of £1 million within 22 years’
But it is not only subscription levels that account; having existed for almost 20 years, ISA asset growth points to the benefits of long-term investing.
A little number crunching points to the opportunity – wealth managers Brewin Dolphin calculates that an investor making the maximum subscription each year and achieving a 7% return after fees could achieve a pot of £1 million within 22 years.
The benefits of compounding and tax efficient saving can deliver life-changing wealth to those who seize the opportunity; the first step is to use this year’s allowance now, because otherwise you’ll lose it.
What is an ISA?
An Individual Savings Account (ISA), or indeed a ‘NISA’, a ‘new’ ISA, is an investment wrapper whose key attraction is that returns generated within it are free of tax.
DIY investors can choose either a cash or a stocks and shares ISA and benefit from higher rates of return and tax benefits than savings accounts.
With interest rates set to remain at record low levels there is precious little to be earned on savings accounts and any return less than the prevailing rate of inflation means that your capital is being eroded.
A cash ISA is simply a savings product that pays returns with no deduction of tax – a saving of 20% to standard rate taxpayers and 40% to those that pay at the higher level.
£280 billion is currently invested in cash ISAs but rates have been declining, with the best instant access account currently available paying just 0.74%, meaning that savers are losing the ‘real’ value of their money because annual inflation is currently running at 1.8%.
The more flexible NISA allows investors to convert from stocks and shares to cash products although from April 6, 2016, new rules came come into play which allowed basic-rate taxpayers to earn £1,000 of savings interest without the taxman taking a slice, and higher-rate taxpayers will be able to earn £500 – a personal savings allowance (PSA).
Stocks and Shares ISA
Stocks and shares ISAs currently allow investors to subscribe up to the full £20,000 annual allowance and invest in a wide range of stocks, bonds, funds, investment trusts and ETFs. Profits are not liable for capital gains tax and no additional income tax is due on dividends or distributions.
The 2014 budget allowed peer-to-peer loans to be held in an ISA as well as bonds with less than five years to maturity.
Is an ISA for You?
Notwithstanding the pressure from all sides to participate in what always seems to be described as a ‘bumper’ ISA season, many DIY investors will recognise the value of a tax efficient investment vehicle.
Understand your attitude to risk, set your financial objectives and construct your long term investment strategy.
‘Understand your attitude to risk, set your financial objectives and construct your long term investment strategy.’
Whilst some may need a nudge, ISA season should not really sneak up on you; the end of the tax year should just be another milestone on the way to the achievement of your investment goals.
Some may consider that easy access to their investments makes an ISA a more portable and attractive alternative to a pension in their retirement planning; others may decide that the creation of sub-pots within a tax-efficient account may be the best way to give their children a financial head start in life.
It is worth shopping around to ensure that the ISA provider you choose delivers the right technical capability and range of investment options that allow you to implement your strategy and at a cost that you find acceptable.
However, if you do make the wrong choice, ISAs are reasonably simple to transfer with no loss of tax benefit – you have instant access to your funds should you require it.
If you are not confident about picking individual investments you may to choose to effectively cede asset allocation decisions to the experts by purchasing a managed or multi-manager fund, by adopting a model portfolio, purchasing a low-cost index tracker or by selecting one of the pre-selected portfolios of funds that are on offer.
What you should try to avoid is missing this year’s deadline and then thinking ‘I wish……
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