Have you been put out by the pasty tax? Have you grumbled about the granny tax? Are you outraged at Osborne? Well it’s time to fight back, and we don’t mean by marching on Parliament (not that we’d stop you, of course, just wrap up warm).
If you’re paying more in tax or losing more in perks as a result of the austerity measures then you can fight back by protecting more of your money from the taxman. After all, if the super-rich can avoid tax through legal loopholes, why shouldn’t you make use of a tax-free incentive to save? An individual savings account, more commonly called an ISA, allows you to save money without paying tax on the returns. And that goes for as long as you leave the money in the account, meaning you can build up a great big wad of cash over a few years without the taxman helping himself to any of your interest.
Why aren’t you saving?
So why don’t you have one already? Perhaps you think that ISAs are only for investors or high earners. Or perhaps you want to give the government a bit of extra financial support as your contribution to the deficit? No, we didn’t think so. But whatever the reason, the majority of British adults are not making use of their annual ISA allowance.
A survey by the AA revealed that, although 67 per cent of people say they save what they can, just four in 10 use a tax-free account. One of the reasons given is that ISAs are for long-term savings. In fact, just 12 per cent of the respondents thought that ISAs could be instant-access accounts. Perhaps that’s the main reason people aren’t making the most of an ISA, they worry that it would stop them from getting at their money in an emergency. But with the right ISA account, that’s not the case. And, even if your only savings are an emergency fund, it still makes good sense to keep that money in an ISA. After all, if you don’t need to dip into your emergency pot then you can avoid paying tax on the returns in the meantime.
What exactly is an ISA?
Normally, when you save or invest money, you pay tax on any returns you make. If you’re a basic rate taxpayer then you may not have noticed, because it’s taken off by the bank before it pays you the remaining interest. But you’re losing 20 per cent of your returns to the taxman.
An ISA lets you save or invest a limited amount each year without paying any interest. And that nest egg can be added to each year, until you have a substantial store of savings or investments, earning tax-free returns.
Your annual ISA allowance is currently £11,280. Only up to £5,640 of that can be saved as cash, although you can invest as much of it as you like in stocks and shares. Most people start out with a cash ISA account.
Which cash ISA is right for me?
There are as many cash ISA accounts as there are standard savings accounts. You can save into fixed rate bonds, regular savers, instant access accounts, even junior ISAs for children. But which is right for you?
If you aren’t comfortable locking your cash away where you can’t get it, then an instant access ISA is probably the best. These allow you to withdraw your money whenever you need it and with no penalty, although some of the higher-paying accounts do restrict the number of withdrawals you can make in any one year. Of course, once you’ve paid money into an ISA, you’ve used up that portion of your annual ISA allowance, so it’s best to avoid regular withdrawals. But having easy access to your money in an emergency can give you real peace of mind.
If you want to make sure you save at least a small amount each month then a regular saver ISA could help. These allow you to pay in a fixed amount each month, often between £10 and £450. You can pay up the maximum amount each month but you do need to pay in at least the minimum. Be careful though, these accounts are strict! If you miss a monthly payment then you’ll lose your competitive rate of interest.
The third most common kind of cash ISA is a fixed rate bond. These are especially good if you already have a lump sum in ISA savings and want to transfer it into a high-paying account. You can lock your money away for anything up to five years, but generally speaking the longer the time the higher the rate of interest. Be very careful though, these accounts don’t suit everyone, you have to be comfortable loosing access to your money for the length of the bond. Also, you’re taking a bit of a gamble. If interest rates suddenly rose, you could find yourself locked into an uncompetitive rate.
If you’re new to ISAs then there are a few things you need to know, to make sure you don’t mistakenly lose your tax-free entitlement. Your tax-free allowance can only be used once each year. So, if you pay in the full cash-account amount of £5,640 and then withdraw it, you can’t reinvest that amount that year – even if you’ve emptied your ISA.
You’ll want to switch cash ISAs occasionally in order to find the best deals, probably at least once a year if you’re using an account with a 12-month bonus. When you decide to change accounts, make sure you ask the provider to transfer the money from your existing account. If you withdraw it then the money loses its tax-free status and you won’t be able to pay it into a new ISA without using up your new allowance.
And finally, we know we’re a bit obsessed here at Gocompare.com, but do take the time to compare ISA accounts. There’s a lot of choice out there and some really competitive rates. If you just go with your bank’s standard ISA offering, you could be missing out on some serious long-term interest.