As one of the most generous tax wrappers available to UK investors and savers, experienced investors can utilise their annual ISA allowance to build a diversified portfolio with exposure to the equities market, alternative assets and cash.
And making the most of this allowance each tax year is crucial for experienced investors looking to make their capital work harder.
Understanding the specifics of the ISA wrapper
There are four Adult ISA products to choose from – the Cash ISA, Stocks and Shares ISA, Innovative Finance ISA (IFISA) and Lifetime ISA.
Each has their own benefits and features, but experienced investors with the appropriate appetite for risk are able to subscribe their annual ISA allowance to whichever product is best suited to their needs.
And it is possible to have more than one ISA – resulting in opportunities to build a balanced and diversified ISA portfolio with a spread of investments that meet specific goals and preferences.
For those all-important cash savings, the Cash ISA is an appropriate option. Capital is not at risk and funds are protected by the Financial Services Compensation Scheme (FSCS) for up to £85,000 in the event of provider failure.
But Cash ISA interest rates are at rock-bottom, and are not keeping pace with inflation – which the Consumer Price Index shows was at 2.1% for the 12 months up to May 2021, whilst the best instant-access Cash ISA rate at present is just 0.54%.
For the potential of higher, inflation-beating returns – but with mid–high risks – experienced investors could split their ISA allowance between a Stocks and Shares ISA and IFISA, too.
As an example, in 2021/22, an experienced investor could subscribe £10,000 to an IFISA, £5,000 to a Stocks and Shares ISA and £5,000 to a Cash ISA.
And utilising the allowance in full as above is an important consideration for those able to do so, as it can not be carried over into the following tax year.
Using the ISA allowance to support portfolio risk and return requirements
Because of their status as a sophisticated, professional or high-net-worth investor, as long as their personal risk appetite and circumstances allow, experienced investors are able to – and often more willing to – take on higher risks in the search of higher returns.
As a result, an experienced investor is not restricted to contributing their full ISA allowance to a low-risk, low-return Cash ISA. Instead, they could split it, enabling them to build a diversified portfolio with a balanced risk/return profile.
Splitting the ISA allowance across products offers exposure to the equities market, alternative assets such as peer-to-peer loans and cash for those instant-access savings.
And whilst the top instant-access Cash ISA rate at present is just 0.54% — failing to keep pace with inflation, which the Consumer Price Index shows was at 2.5% for the 12 months up to June 2021 — experienced investors can look to the IFISA and Stocks and Shares ISA to target higher, inflation-beating potential returns.
Both considered to be mid–high risk options – though the exact risk profile will be dependent on the asset held – with this comes the potential for higher returns.
With a Stocks and Shares ISA, target returns are often in excess of 4%. But experienced investors will be aware of the volatile nature of the equities market, with regular fluctuations making it a long-term investment option in order for falls in value to recover. For an example of this, consider the US and UK market’s response to the Coronavirus pandemic, where losses surpassed £3.8 trillion in a single week.
For an IFISA, as with its risk profile, the exact target returns offered will depend on the asset held, as well as the provider.
Using property bonds as an example, when investing with an IFISA, potential returns are often between 4% and 8%. Given they are asset-backed, it can add an element of downside protection for investors as the investment is secured on assets of the borrower’s, such as properties or land.
But it all comes down to specific portfolio requirements. An experienced investor with an ISA portfolio already weighted towards higher risk assets could rebalance by subscribing some or all of their current ISA allowance to a Cash ISA.
On the other hand, experienced investors with significant exposure to the volatile stock market via a Stocks and Shares ISA could choose to subscribe some or all of their current allowance to an IFISA – still facing mid–high risks for the potential of high returns, but doing so via a product that is not correlated with the fluctuations of the stock market.
Utilising ISA transfers to maximise the allowance and rebalance your portfolio
When looking to rebalance their ISA portfolio, experienced investors will not only consider which ISAs are the most appropriate for their current £20,000 allowance, but also whether there is a more suitable product for their existing ISA funds.
An experienced investor looking to take on more risk in 2021/22 after contributing their whole allowance to a Cash ISA since 2017/18 could move all or a portion of the £80,000 accumulated to an IFISA or Stocks and Shares ISA, and they could do so without contributing to the current ISA allowance.
This is achievable with an ISA transfer. When following the official ISA transfer process, it is possible to move funds from one ISA to another – whether this is the same product with a different provider or a different ISA product altogether – without needing to utilise the current £20,000 allowance, as ISA transfers are not governed by the annual ISA allowance.
For the aforementioned investor, this results in £100,000 – including the £80,000 from their Cash ISA and £20,000 uninvested 2021/22 allowance – available to adjust the risk/return profile of their ISA portfolio.
The value of this is clear: allowing experienced investors to maximise their annual ISA allowance and adjust the weighting of their portfolio as needed. But be sure to follow the official ISA transfer process – never withdraw funds from an ISA with a view to reinvest as this causes them to lose their tax-free status and reinvestment will contribute to the current allowance.
Making the most of the annual ISA allowance
For experienced investors, the annual ISA allowance brings with it opportunities to make their capital work harder in a tax-efficient manner.
But it’s when paired with ISA transfers and the ability to subscribe to more than one type of ISA each year that the ISA allowance becomes its most valuable.
From spreading the current year’s allowance across products to diversify, through to utilising ISA transfers to ensure funds contributed in the past are reaching their full potential today, experienced investors have all the tools they need to build a potentially lucrative and well-diversified ISA portfolio.