Individual Savings Accounts

Guide to ISA’s

For many savers, the tax efficient Individual Savings Account (ISA) will be their first experience of putting money away.

The ISA is the ‘mainstay’ for tax-efficient investment of the future and it is important that both small and large investors alike come to understand the workings of this product.

The first thing to remember about ISAs is that they, like PEPs, are not merely savings plans but provide a ‘wrapper’ that shelters the investment contained inside from tax.

What is an ISA?

The reasons why it might be a good idea to invest in an ISA are much the same for any investment - that it will allow individuals to save for a particular objective such as building cash reserves. The particular benefits of ISAs are that they will be tax free and exempt from both Capital Gains Tax on investment growth and Income Tax on any interest paid into the account.

How ISAs Work

The products which can be wrapped up in an ISA principally are Unit Trusts - but many more asides. ISAs can be used to protect bank and building society deposit accounts, National Savings and Life Assurance policies.

The government restricts the sum that can be invested into an ISA in order to limit the amount of tax revenue it will lose.

Elements of ISAs

Savings

Investors can put in £3,000 a year – with the interest added tax-free. These accounts will run like any other savings plans and provide a low but relatively reliable return. Money can be withdrawn at any time but once removed cannot be put back.

The entire ISA allowance of £7000 can be invested into the equities. The money is then used to buy shares in quoted companies, unit and investment trusts, which may include corporate bonds and gilts. Shares can also be transferred into the ISA, that have been bought through company share option schemes. There’s no capital gains tax to pay on any profit made on these investments, and for the first five years, a dividend credit of 10% will be added.

Life Assurance

Up to £1000 a year can be paid in premiums to fund a life insurance policy, either as a regular savings plan or a one-off lump sum. The tax savings relate to the shares that the money is invested in.

Warning!

If you open a separate Cash Mini ISA, this means that your Share ISA contribution that year must also be in the form of a Mini ISA- with a maximum contribution limit of £3000

If you place just £1 in a Cash Mini ISA, you will reduce the amount you can put in the share ISA from £7000 to £3000. Some institutions may be offering tempting rates and special incentives to open a cash ISA. Before accepting such offers, be aware of the consequences this will have on your flexibility to contribute to a Share Investment ISA.

Mini or Maxi

Mini ISA

Each part of an ISA can be from a different provider in effect giving the investor three mini-ISAs instead of one large one. Investors may also choose to take up one of the options and not bother with the other two parts. Once a Mini ISA is chosen, the investors are locked into the Mini route for that year.

Maxi ISA

All parts of the ISA are bought through one provider. The same cash and insurance limits apply as with the Mini, but it is possible to ignore one or more of the parts and put up to £7000 into shares. If an investor wishes to invest more than £3000 in shares they must go for a Maxi ISA.

CAT Marks

Some ISAs will carry a CAT mark. It is not a seal of approval ensuring that these plans are better than others, it is instead an indication that Costs, Accessibility and Terms are all reasonable. The intention is that a product that meets the “CAT” standard will be clear and straightforward. These are issued by the government but are not a guarantee of future returns. Money can be lost in a CAT-marked scheme just as easily as in any unmarked scheme.

Cash CAT

Costs

No one-off or regular charges, except those for replacement items such as lost statements or plastic cards.

Access

Investors must have access to their money within 7 working days. Minimum deposits must be no higher than £10.

Terms

The rate of interest must be linked to the base rate and mustn’t fall any more than 2% below it.

Insurance CAT

Costs

Annual charge no more than 3%. No other charges allowed.

Access

Minimum premium can be no higher than £25 a month or £250 per year.

Terms

Anyone cashing in during the early years should get a return based on how much they have paid in. After 3 years the surrender value must at least return the premiums paid in.

Share Cat

Costs

Only one charge is allowed, an annual fee of no more than 1% of the value of the fund.

Access

Minimum saving no more than £500 lump sum or £50 per month.

Terms

Units and shares to be single-priced at mid-market prices ( no bid offer spread). Investment risk must be highlighted in literature.

ISAs without CAT marks

Although CAT marks provide savers with set minimum standards, they also limit the flexibility of the plans.

For example, anyone providing a CAT marked equity ISA will probably run it as a tracker fund, keeping costs low and eliminating the need for a fund manager to pick and choose investments. Sophisticated investors putting more than the minimum into the equity part of their ISA may prefer one that is not CAT marked so that, although they may be paying more in charges, they will have a fund management team looking after the investments.

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