A new tax year has begun, bringing with it another opportunity to shelter your savings and investments from tax using the £20,000 annual ISA allowance.
The benefits of an ISA – that all investments held within the wrapper are not liable for income tax, Capital Gains Tax (CGT) or dividends tax – are arguably more important than ever this year, as a number of tax changes come into effect with the ability to significantly erode investors’ capital.
The tax changes – which were originally announced in the Chancellor of the Exchequer’s Autumn Statement in November 2022 – include a reduction in the additional-rate income tax threshold, an incremental reduction of the CGT-free allowance by more than 120%, and a cut to the dividends tax-free allowance.
It’s clear therefore that utilising the ISA allowance to its full potential is a crucial consideration. And in order to do so, there are four key points to take into account when subscribing your allowance.
1. Consider splitting your ISA allowance across ISA products for diversification
Each tax year, you are able to subscribe your ISA allowance to one of each of the four Adult ISA products (the Cash ISA, Stocks and Shares ISA, Innovative Finance ISA (IFISA) and Lifetime ISA).
You can do this because your annual ISA allowance can be split across ISA products – it doesn’t need to be subscribed in full to just one ISA (unless that’s what you would like to do). There are a number of benefits to spreading your allowance across ISAs, namely the ability to reap the benefits of each ISA product and build a diversified, balanced portfolio.
An experienced investor could subscribe capital to the low-risk but low-yielding Cash ISA for safe keeping, whilst also subscribing to higher-risk IFISA and Stocks and Shares ISAs for the potential of higher target returns.
As an example, investor one may choose to subscribe £5,000 of their 2023/24 allowance to a Cash ISA, £5,000 to a Stocks and Shares ISA, and £10,000 to an IFISA.
On the other hand, investor two may have ample cash savings from previous tax years and now wants to focus on potential capital growth. Therefore they could evenly split their ISA allowance, subscribing £10,000 to an IFISA and £10,000 to a Stocks and Shares ISA.
As a result, you’re able to incorporate the long-term growth potential of the equities market into your ISA portfolio, whilst balancing its well-known volatility with the IFISA, which typically offers more stable, fixed target returns often in excess of 9%.
2. Remember the rules surrounding subscribing your ISA allowance
The annual ISA allowance for 2023/24 is £20,000 once again, and you must ensure you don’t subscribe more than this within the tax year.
It’s your responsibility to make sure you don’t exceed the allowance. If you do, funds subscribed above the allowance will not benefit from the ISA’s tax-free status, and you must contact HMRC as soon as you realise your mistake (they will contact you in the event you don’t realise you’ve oversubscribed).
There are also rules regarding how many ISAs you can subscribe to each tax year – this is one of each type, as previously mentioned.
3. Subscribe your full ISA allowance where possible each year
Understandably, this may not be possible for some. However, for those who are able to, subscribing the ISA allowance in full each year is a key consideration for maximising potential returns.
In research from 2021, Sanlam found that among those with at least £50,000 in investable assets, fewer than half had used their full ISA allowance. But the full value of the ISA allowance and ISA tax wrapper is evident when understanding that a return of 9% – a figure often targeted by the property-backed IFISA – outside of the wrapper equates to a Gross Equivalent Return of 16.4% for additional-rate taxpayers.
Spreading your full, tax-free ISA allowance across a range of ISA products each year results in unrivalled opportunities to build a hard working, diversified portfolio that can help you achieve both your saving and investment goals.
4. Ensure past allowances continue to work their hardest to meet your goals by utilising ISA transfers
The most valuable and powerful aspect of an ISA transfer is that they allow you to ensure your past ISA allowances are continuing to work hard to meet your investment objectives, without having an impact on your current year’s allowance.
Provided the official ISA transfer process is followed, funds transferred from an ISA that were subscribed in a previous tax year do not deduct from your current allowance. Remember: funds should never be withdrawn from an ISA with the outlook to reinvest as this removes them from the tax-free wrapper and any reinvestment will be subject to the current year’s ISA allowance.
Using ISA transfers makes it possible and simple to alter the weighting of your ISA portfolio where needed. This could be for a number of reasons. As an example, investor one has accumulated £50,000 in a Cash ISA over past tax years but is disillusioned with the returns being generated. Therefore, as this experienced investor has a high appetite for risk, they could choose to transfer £20,000 from their Cash ISA to an IFISA, as well as splitting their current 2023/24 ISA allowance between an IFISA and Stocks and Shares ISA for diversified exposure.
Making the most of the ISA allowance
24 years after its inception, the ISA continues to be one of the most generous tax incentives available to investors in the UK. Whilst other allowances have been targeted in a bid from the Government to recoup money, the ISA allowance has remained at £20,000 since 2017/18 and will be frozen at this level for the current tax year.
And it’s clear that when using the allowance to its maximum and alongside features such as ISA transfers, there are ample opportunities for experienced investors to target attractive, tax-free returns.
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