How you and your family can benefit substantially from ISAs

Mar 20, 2018 | Tony Byrne's View

In recent years there has emerged a confusing alphabet soup of differently named ISAs. The ones most people have heard of are as follows;

  • Help To Buy ISA
  • LISA (Lifetime ISA)
  • IFISA (Innovative Finance ISA)
  • Inheritance ISA
  • AIM ISA (Alternative Investment Market ISA)
  • Junior ISA
  • Cash ISA
  • Equity (or Stocks and Shares) ISA

In addition to the complexity of these various ISAs are the many rules that need to be followed to ensure that a) ISAs do not lose their qualifying status and b) the investor does not fall foul of the rules.

The main ISAs most people are familiar with are Cash ISAs, Equity ISAs and Junior ISAs. Adults aged 16 and over may pay up to £20,000 a year each into Cash and Equity ISAs. Junior ISAs are for the under 18s and the annual limit is £4128 (2017/18) rising to £4,260 from 6 April 2018. Interestingly this creates an anomaly in that 16 and 17 year olds may invest in both a Junior ISA and an adult one! This means they are the group of individuals who may pay the highest amount into ISAs each tax year of £24,128 each (£24,260 in 2018/19). This was probably an unintended consequence of the legislation unless the Treasury was feeling charitable to future students to cushion the blow of funding tuition fees!

Cash ISAs are basically bank and Building Society accounts which pay tax free interest. Personally I feel they are a complete waste of time and money a) because at the time of writing you can get higher interest from a taxed bank account than a tax free Cash ISA and b) because it is a complete waste of a £20,000 tax free allowance which would be far better invested in an Equity ISA.

We regularly advise clients to transfer their Cash ISAs into Equity ISAs. We find they are rarely receiving much more than 1% a year on their Cash ISAs. Our Wealth Investment Strategy, WIS, has a 21 year track record of producing average annual returns of 9.8% a year.

We advise clients that it is unrealistic to expect investment returns as high as this for the next 10 years if interest rates and inflation remain at very low levels. There is a clear historical correlation between interest rates, inflation and stock market returns. You cannot realistically expect to make 10% a year from shares when inflation and interest rates are at, or close to, zero. However, even if WIS returns only averaged, say, 5%-6%, a year for the next 10 years that sure beats 1%, if you are lucky, from a Cash ISA!

In an era when annual pension contributions limits have been reduced substantially to between £10,000-£40,000 a year for those who have qualifying earnings to as low as £3,600-£4,000 in certain cases there are individuals and couples who can now pay more into ISAs annually than pensions! Remarkable but true.

Pensions even have a maximum pot size now before they get absolutely clobbered for tax up to as much as 55% on the excess above the so called Lifetime Allowance, LTA, of £1 million (higher LTA allowances of up to £1.8 million apply to certain individuals who have made tax elections in previous tax years). ISAs do not have a maximum value cap at least not yet but watch this space.

The previous Chancellor created a Lifetime ISA, LISA, with a £4,000 annual contribution limit. LISA is only available for the under 40s. LISAs receive a 25% tax credit annually. A LISA can only be used for house purchase or retirement otherwise there is a tax penalty of 25% of the fund value withdrawals made for any other purpose which negates the tax saving in the first place. Total tax benefits can be as much as £33,000!

I foresaw LISAs as the forerunner to an eventual merger of ISAs with personal pensions. The cynic in me tells me that such a merger is inevitable as it will put a cap on ISA values, increase the government’s tax revenues and save the government billions of pounds a year in tax relief.

For the moment there is a stay of execution because Philip Hammond is a far more conservative Chancellor than George Osbourne who was quite a radical, “impact” Chancellor. Nonetheless I am convinced this is the way ISAs and pensions will develop in the future.

In the meantime fill your boots with investments such as ISAs whilst stocks last, forgive the pun, because the tax savings give a significant boost to your investment returns and the current ISA regime remains pretty generous. Contact us to advise you on using your ISA allowance before the end of the tax year. You know it makes sense.


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