Richard Stone provides a look at the different ISAs available and when you should consider opening an ISA.
ISA First Timers: which ISA is right for you?
You’ve decided that you’re now in a position to save some of your hard earned money. You’re aware of the tax free benefits of an ISA (Individual Savings Account) so you put the phrase into Google and are presented with an array of options – cash, stocks and shares, lifetime, junior, flexible and innovative - and you find yourself asking the question: which one is right for me?
Why should you open an ISA?
Whilst the ISA landscape can seem complex, the principal benefit of the ISA environment is the ability to roll up the annual allowances over time to build a meaningful pot of savings within a tax free environment, to create better financial security for you and family.
What to consider? Time, attitude to risk, goals
There are a number of things to consider when choosing the most appropriate ISA account. In general, the most important include time horizon (how long you want to save for), attitude towards risk as well as return and identifying when you may need the funds you are saving. Deciding on the answers to these questions should help narrow down your search.
The Lifetime ISA (LISA)
As an example, if you are aged 18-39 and are saving for your first property, or for the very long term (retirement), then the Lifetime ISA makes most sense because of the benefit of the 25% Government contribution and limited accessibility to encourage consistent savings. At the same time, this product, one of the newest to the ISA market, gives investors peace of mind that if, in hard times, you need to access your funds you can do so, albeit with a penalty involved, unlike a pension (under the age of 55).
The Stocks and Shares ISA
Equity investments, however, whether held directly in shares or in funds, have been shown to outperform cash over time, but the risk associated with this type of investment is that of capital loss from market fluctuations which may affect the value of your funds at the time you need access to your capital. So, provided you have a reasonable investment time horizon (years, not months!) then a Stocks and Shares ISA may be most appropriate for you. This ISA can give investors exposure to company shares, funds and investment trusts amongst other investments.
Would you prefer a Stocks & Shares ISA, but have your investments managed for you?
The Junior ISA
Investing in the stock market could also provide the best returns when investing for young people and children, and we recommend that parents looking to build a nest egg approach this by investing little and often into a Junior ISA. With an investment time horizon of up to 18 years, the ability to look to the longer term is clear. Parents might well be surprised by the return achieved by the time their children reach adulthood.
The Cash ISA
If you are not specifically saving for your first home and it is likely that you require the funds imminently or in the near term then a Cash ISA may benefit you, due to there being no capital risk associated; having said that, with interest rates often below the rate of inflation, cash is not holding its purchasing power.
ISAs have general cross party support and have been the centrepiece of multiple governments’ policies to promote savings and investments. Tax allowances and the treatment of pension pots may be changed on a whim and have been in various budgets, but the ISA regime has proven itself to have broad political support and has not been subject to regular change or meddling.
With that being said, positive changes have been made recently to enhance this savings product’s proposition. For instance, new rules implemented in April 2016 mean personal investors are now able to withdraw funds from cash or stocks and shares ISAs and replace it within the same tax year without penalty. For example, you could withdraw the balance from your ISA on 6 April and, provided it is paid back into the same ISA by 5 April in the same tax year, then it will have no impact on your contributions for that tax year and the full amount will, whilst within the ISA environment, be tax free in terms of any income or gains generated.
ISA loopholes for first home savers and young adults
There are one or two ways in which the ISA system can be used to personal investors’ benefit as a result of the way the rules have been drawn up. For example, if a Help to Buy ISA is transferred into a Lifetime ISA in this current tax year (2017-18) then the transferred amount will not count towards the annual £4,000 contribution limit, but the Government will add a 25% bonus to that transferred sum.
You can learn more about the similarities and differences between Lifetime ISAs and Help to Buy ISAs on our Lifetime ISA vs Help to Buy ISA page.
There are also opportunities for 16 and 17 year olds to save more money in a tax free environment. A young person aged 16-18 who has a Junior ISA which has either been set up by their parents, or they have opened one for themselves, can also open an adult cash ISA alongside that, once they turn 16. This means that a 16 or 17 year old have an opportunity to save £24,128 into ISAs (JISA + Cash ISA) each year.
All information given including prices, yields and our opinion is correct at the time of publication. Our opinions on investments can change at any time and for our latest view please go to www.share.com. To understand how our Investment research team arrive at their views please read our Investment Research Policy.