With its tax-free wrapper making it one of the most tax-efficient products available to investors in the UK, it’s unsurprising that the Individual Savings Account (ISA) has become a household name, with 13 million Adult ISA subscriptions in 2019/20 alone.
But there are several features of an ISA that are unknown or commonly misunderstood, and with a number of different ISA products now on the market, it’s understandable that savers and investors may have a number of questions about the tax wrapper.
We’ve answered five of the most commonly asked questions below, covering everything from an overview of the types of ISA available, through to understanding ISA transfers and how many ISAs you can have.
1. What are the different types of ISA?
Catering to both savers and investors as well as a range of saving and investment preferences and goals, there are four Adult ISA products and one Junior ISA (for those under the age of 18).
The four Adult ISAs are:
Stocks and Shares ISA – for investors willing to take on more risk in the search for higher target returns, the Stocks and Shares ISA is a mid–high risk investment product whereby your funds are invested in the equities market. Target returns are typically in excess of 4%, but due to the volatility of the equities market, can fluctuate substantially.
Innovative Finance ISA (IFISA) – again for more experienced investors with a higher appetite for risk, the IFISA is a high risk investment product which opened the ISA market up to alternative investments for the first time, allowing investors to hold peer-to-peer loans and debt-based securities under the tax-free wrapper. Target returns are often in excess of 7%, though this will differ from provider-to-provider and will be dependent on the underlying asset
Cash ISA – arguably the most widely known ISA on the market, the Cash ISA is a low risk/low return cash savings product, with returns currently below 2% for easy-access Cash ISAs.
Lifetime ISA – the latest product to join the ISA family, the Lifetime ISA is for those saving for either their first home or for retirement and it boasts a 25% Government bonus of up to £1,000 per year.
2. How much can you subscribe within the ISA wrapper?
The annual, tax-free ISA allowance is currently £20,000 for 2022/23. It is subject to change each tax year – which begins on 6th April and ends on the following 5th April – but it has been at the current amount since 2017/18, when it was raised from £15,240.
It’s important to be aware that the Lifetime ISA and Junior ISA each have their own subscription limits, which differ from the annual allowance. For 2022/23, these are £4,000 and £9,000 respectively.
3. How many ISAs can you subscribe to?
Accumulated over multiple tax years, you can technically have as many ISAs as you wish, and splitting your ISA allowance across ISA products is a key consideration for building a balanced, diversified ISA portfolio.
The more important question to consider is how many ISAs you can subscribe funds to each tax year – getting this wrong will affect your tax-free returns. You can only subscribe to one of each type of ISA per tax year, therefore the answer to this question is, put simply, four.
Each tax year you can utilise your £20,000 annual allowance to subscribe to one Cash ISA, one Stocks and Shares ISA, one IFISA and one Lifetime ISA should you wish to do so. As an example, you could subscribe £5,000 of your £20,000 ISA allowance to each type in 2022/23.
You can not subscribe to more than one of any ISA product in the same tax year, even if one was opened in a previous year. For example, if you opened and subscribed to a Stocks and Shares ISA in 2021/22 and decided to open and subscribe to a new Stocks and Shares ISA in 2022/23, you would no longer be able to subscribe to the account opened in 2021/22. However that account can remain open and will continue to generate tax-free returns on the funds subscribed.
4. Can you transfer an ISA?
It is certainly possible to transfer an ISA (though it may not always be possible to do so with fixed-term ISAs, such as an IFISA, before the term ends) and ISA transfers have the potential to be extremely beneficial when completed correctly, allowing investors to save or invest what could be considerably more than the £20,000 ISA allowance each tax year.
There are a number of rules regarding ISA transfers that you must be aware of – from how to transfer an ISA correctly so you do not lose the tax-free status of your funds, to how much you can transfer. You can find more in-depth information on these here.
But the core advantage of an ISA transfer is that you are able to move funds from one ISA product to another without impacting the current year’s ISA allowance, a crucial consideration for investors looking to alter the weighting of their portfolio. This could be due to the desire to transfer to the same type of ISA with a different provider in search of a better rate of return, or to transfer to a different type of ISA altogether.
As an example, an experienced investor with £20,000 in a Stocks and Shares ISA subscribed in 2021/22, but who has come become disillusioned with the recent volatility of the equities market, could choose to transfer £10,000 to an IFISA in 2022/23, before also subscribing some or all of their 2022/23 allowance.
5. Should an ISA play a role in my investment portfolio?
There isn’t a one-size-fits-all answer to this question, as it’s dependent on your personal goals and circumstances.
The performance of the Cash ISA at present (and over the last several years) may seem unappealing, as it fails to keep pace with skyrocketing inflation and cash savers risk the value and purchasing power of their capital being eroded over the long-term.
But for all-important cash savings, the Cash ISA remains a viable option for savers who are likely to exceed their Personal Savings Allowance (PSA) of £1,000 each year, as the Cash ISA offers tax-free interest on all contributions forever.
Likewise, the performance of the Stocks and Shares ISA has been particularly volatile of late, with investors actually losing on average 13.3% with the product in 2019/20.
However, the equities market does have potential for significant long-term growth if investors are happy to ride out the volatility, and again, the ISAs tax-free wrapper can be instrumental in maximising these target returns.
Meanwhile, due to its alternative assets, which are uncorrelated with the public markets and the Bank of England’s (BoE) base rate, the IFISA has proven resilient amidst the unprecedented investment landscape we’ve witnessed as of late. Therefore, it could provide much-needed diversification to an experienced investor’s ISA portfolio.
But the key feature that likely does make an ISA a key consideration at a time when investing tax efficiently is a priority are its completely tax-free returns. These have the potential to substantially maximise target returns, significantly reducing an investor’s tax bill, and making your capital work its hardest to meet your objectives.