- An ISA as a UK scheme enabling you to save money into a pot free from tax on capital and dividends
- There is minimum amount and a cap on how much individuals can put into ISAs
- Types of ISAs include: Cash ISAs, Stocks and Shares ISAs, LISA & Help to buy ISA and Innovative Finance ISA
- Each tax year, you can open one ISA in each category (Cash, Stocks and Shares, Lifetime etc)
- The main perk of setting up an ISA is its tax free benefits
Types of ISA
This is where it gets a little complex and where it can be easy to tune out. There are 4 main types of ISAs, all of which are important to know.
These are similar to keeping your money in a standard bank account which offers a relatively small interest rate. It’s worth knowing your timescales on your savings as some cash ISAs offer higher rates if you’re prepared to lock up your savings for a few years.
Stocks and shares ISAs
If you want to get your savings working a little more for you via investing, a stocks and shares ISA is a good option. Rather than just earning a set interest rate like in a cash ISA, you can invest into a range of stocks, funds and ETFs in the ISA. Any dividends and capital gains made within the ISA are tax free, making it a great opportunity to get some growth without the tax burden.
LISA & Help to Buy ISA
The Help to Buy ISA has now closed for new applications but was initially created to help first time buyers in getting a foot on the property ladder. The LISA (not a woman’s name, but an acronym for Lifetime ISA) has now replaced this, with a few more features.
It should be used either for a property purchase or as a retirement pot. Anyone aged 18 to 40 can open one, with a £4,000 per annum limit. The UK government gives a 25% bonus for withdrawal to buy a house to match the old Help to Buy ISA. After the age of 60 all withdrawals are totally up to you.
Be warned though – if you withdraw prior to the age of 60 and if you’re not buying a house, you will face a hefty 25% penalty for taking money out. So make sure you’re not going to need these savings for emergencies.
Innovative finance ISA
These are perhaps the most specialized and risky type of ISA. With an innovative finance ISA, your savings are lent to businesses to raise funding for their projects, in a similar way to Kickstarter or GoFundMe. The businesses that borrow money that you’ve lent pay interest as they return their loan. You then earn the interest on their loan, you’ve got it, tax free.
How many ISAs can you have?
Each tax year, you can open one ISA in each category (Cash, Stocks and Shares, Lifetime etc), but you would not be allowed to open two of the same cash ISAs in one year with two different providers. For example, you can't open two Stocks and Shares ISAs in a tax year, but you could open one Stocks and Shares ISA and one Cash ISA.
How to choose an ISA
Deciding which ISA works best for you can seem a little daunting, so here’s some guiding principles to consider:
Risk appetite: Although a cash ISA can almost guarantee a fixed return, if you have a bigger risk appetite, you could consider a stocks and shares ISA because it could lead to larger returns in the long-run.
Minimum investment: For many ISAs, there’s a minimum amount you can put into the pot. Check the requirements and see if you’ll meet them before proceeding.
Fees and charges: Different providers incur different levels of fees to move money in and out. Find out what those are beforehand and find the best rate for you.