THE humble ISA, or Individual Savings Account, is now over fifteen years old, so you might be forgiven for thinking that you know all about how to make the most of it.However, new rules that came in after the government’s last Budget have transformed the tax-free wrapper, making it far more flexible and allowing savers to shelter more money from the taxman.
Under the new rules, you can put £15,000 a year into an ISA, and you can choose how much of this to hold as cash savings and how much to invest in the stock market or into funds or other assets. What’s more, you can switch the money in your ISA between cash and stocks and shares, and back again whenever you wish, whereas before you were only allowed to put half of your annual allowance into cash, and could not switch investment ISAs into cash savings.
Thanks to these developments, experts dub the revised ISA product the NISA, or New ISA, but the principal is still the same. If you save into your ISA, the interest you gain (if you are saving in cash), or the increase in value (if you are investing) is tax free. Since you can add to your NISA (or open a new one) every tax year, it is possible to build up a very significant amount of money by ensuring that you always use your full allowance.
The changes to the rules announced in the Budget have made NISAs a popular product. Recent figures from HMRC showed that investors are putting record amounts into investment ISAs, with a record £18.4 billion going into shares, funds and investment trusts.
In total there is now £470billion is sitting in cash and investment ISAs, up six per cent on the 2012/2013 tax year. Slightly over half of this, £241 billion, is in investment ISAs and £228 billion is in cash.
So, what is the best way to invest your ISA?
The investments you make and the proportion of savings that you allocate to cash and stocks and shares should be an individual decision, informed by a proper understanding of your life stage and your own attitude to risk. However, there are some steps that everyone should take to ensure that they aren’t throwing away this valuable tax break from the government.
The first thing to do is to check the performance of the ISAs you already have. Whether these are held as cash or shares, you may not be getting the performance you desire unless you check often. This is particularly a problem with cash ISAs, as banks and other providers tend to offer tempting rates to hook in new investors, only to drop them a year later. However, these old accounts will have similar names to the new ISAs that the same providers put out at the top of the best-buy tables, meaning it is easy to assume that you are still getting a decent rate.
The statements you get from your ISA provider should show the interest rate that you are actually getting, and it is worth checking every time you receive one, as the gap between the best-paying ISA and the worst can be very high. It is easy to switch ISA provider if you aren’t happy with the rate that you are getting – and you can switch your old cash ISAs into stocks and shares and your old stocks and shares ISAs into cash as you wish. You can either choose to hold one NISA with both stocks and shares and cash elements, or two separate products, one for cash and one for investments.
It is also worth checking your stocks and shares ISAs from the past. As your circumstances change, your attitude towards your investments may have changed as well. For example, if your ISA contains savings for a long-term goal you may feel that you can take more risk with volatile investments, whereas if you need the money sooner you might want to ensure that performance is more stable.
It is important to ensure that your portfolio of investments and savings is properly diversified and balanced, taking into account both the products within your ISAs and those that are not. Unless you revisit your portfolio regularly you may find that the balance shifts over the years, as some aspects of the portfolio perform particularly well, and therefore become a disproportionate amount of your total assets.
If you are unsure of how to balance your portfolio yourself, an Independent Financial Adviser (IFA) may be able to help you with this. Remember that if you invest money in funds or shares the value can go down as well as up. It is also worth bearing in mind the effect on inflation upon your cash savings. Unless the rate you are getting on the cash in your ISA is higher than the rate of inflation, your money will lose value in real terms every year. It is even worse if you are a taxpayer and you have savings outside the ISA wrapper, as you will then need to find an interest rate that outruns the combined effect of inflation and the tax on the interest you are getting.
When you are looking for a home for this year’s ISA allowance, consider the split you wish to have between cash and stocks and shares. You can either put the whole amount in at once or put in a set amount every month to help spread the cost. If you are investing in shares or funds, dripfeeding money into your account every month may help to minimise the volatility of your investments. This is due to a phenomenon known as ‘pound cost averaging’, which means that you invest the same amount whether the stock market is up or down, and has the effect of smoothing the performance of your investments.
Finally, remember that you need to see your ISA savings as part of your entire financial planning strategy which should also include your pension and other savings. Make sure you understand the different tax breaks available for pension and ISA savings, and how you can make the most of them. If in doubt, consult a professional.
Written by Rosie-Murray West