S1E4: Why and how to use ISAs | YourMoney Editor Paloma Kubiak
ISAs are a godsend. Most countries don’t have a system like it. They’re basically a tax free way to save and invest in the UK, so we’re talking to Paloma Kubiak, Editor of YourMoney.com, to find out how to use them to build wealth.
What you should remember from this episode
ISAs, or Individual Savings Accounts, are ways to protect your savings and investments from tax.
An ISA is basically a tax-free wrapper for the things you hold inside it which can be stuff like cash or investments.
There are several types of ISAs with different purposes. The most popular ones are:
Junior ISA - for children
Stocks and shares ISA - for investing
Cash ISA - for saving money
Lifetime ISA, or LISA - for retirement or buying a first home
Help to buy ISA - for buying a home
If you’re going to do things like invest in stocks and shares, then it’s best to do it through an ISA because it means all your gains are tax free. Otherwise you can pay a lot of tax over a lifetime of investing.
Let’s go through some of the most common types of ISA and their main purposes…
Cash ISAs
You get paid an interest rate, like you would from a bank with a savings account. They have different terms, e.g. one cash ISA might lock up your money for one year, for which they’ll pay you 3% in interest. So if you put in £1,000 you’d have £1,030 a year later.
Cash ISA are particularly good for short term savings, e.g. building your emergency fund (but make sure it’s easy access, i.e. not locked up in case you have an emergency!) or a wedding, or whatever you’ll need your money for in the next 3 years or so.
Stocks and shares ISAs
You can invest in the same stocks and shares that you would otherwise (generally), but if you do it through a stocks and shares ISA, it’s all tax free.
Investors hope they can beat the return on cash over the long term, e.g. US stocks have returned 9% a year for decades which is generally better than what you’ll get from a cash interest rate - but there is risk.
The stock market fluctuates. According to Tilney, in 37 of the last 50 years there have been positive returns - which also means in 13 of those 50 years the markets have gone down. This is why you need to invest for the long term, and why most advisors would generally say it’s better to keep money you think you might need in the short term in cash (or possibly a cash ISA) because there’s no risk of it going down like investments.
Lifetime ISA, or LISA
You can put up to £4k a year into a LISA and the government will give you a 25% bonus, so if you put in £4k, they’ll top it up to £1k. It’s free money.
You can pay into a LISA from the age of 18 - 50 but you have to start using your LISA by the time you’re 39 or you won’t be able to get one.
You can then use what’s in your LISA to invest in stocks and shares, or get an interest rate on your cash - except you’re doing it with the extra 25% government bonus.
You can only access the money in your LISA if you’re buying your first home (up to £450k in value) or when you turn 60 - otherwise there’s a 25% penalty.
Try to invest what you can afford having gone through a budget, and once you’ve built an emergency fund of 3 - 6 months income (which you might want to use a cash ISA for).
When investing, you want to buy low and sell high but as legendary investor Warren Buffet said - investing in the stock market is one of the only examples where people aren’t happy when there’s a sale on (prices drop). When the markets are down, that’s generally a good time to buy because you’re buying low - that’s when professional investors get excited.
It’s very difficult to predict the future. Most professional investors don’t beat the market over the long term so consider pound cost averaging - investing a certain amount each month once you’ve worked out what you can afford. It removes the stressful and nigh impossible decision-making of when’s a good time to buy.
If you’re investing, you need to accept there is risk. Prices will go up and down so you have to maintain your discipline because you should be building for the long term.
You can have multiple types of ISA at one time.
You can pay into multiple types of ISA each year, but you can’t put in more than £20k in one financial year across all of them combined. For example you could put £15k into a stocks and share ISA and £5k into a cash ISA in one financial year. If you use a Lifetime ISA up to its £4k/year limit, it likewise eats into your overall £20k/year allowance. The key thing is the £20k limit on new money in.
Once you’ve chosen your provider of a particular type of ISA, e.g. a cash ISA, then that’s the only cash ISA you can pay money into in that financial year.
You can transfer your money between different types of ISA. If you are moving your money from one ISA to the next, make sure you do an official transfer, rather than pulling the money out of one and putting it back into another or it will lose its tax free status.
Transfers do not affect your annual allowance of £20k of new money you can put into ISAs each financial year.
What you should do after this episode
Read up on ISAs and try to use them because they protect your money from tax. Check out this video from Damo on the best stocks and shares ISAs in 2023.
Consider using a cash ISA if you want to build short term savings (the next three years), e.g. for an emergency fund, or a wedding or some kind of event.
If you want to invest or are investing, consider doing it through a stocks and shares ISA. Watch Episode 3, how to start investing, if you haven’t seen it.
If you’re between 18 and 39, consider opening a Lifetime ISA to get the 25% bonus from the government. But remember, there is a 25% penalty for withdrawing money unless you’re using it to buy your first property (for up to £450k), or you’re at least 60 years old - so make sure these restrictions work with your long term plan.
Investment platforms
Here are some of the biggest investment platforms in the UK (and Damo uses all of them too).
Some of these are affiliate links. If you purchase a product or service using one of these links, we will receive a small commission from the seller. There will be no additional charge for you.
Remember investments can fall and rise - and past performance is no guarantee of future results. Other fees may apply. Your capital is at risk.
InvestEngine
Get a £25 bonus when you invest at least £100.
https://investengine.pxf.io/daOD2Q
Vanguard
https://www.vanguardinvestor.co.uk/
This is not an affiliate link.
Trading 212
Get a free share worth up to £100 when you sign up for a new Invest or ISA account and deposit at least £1.
https://www.trading212.com/promocodes/MM
If you do not get your free share after depositing at least £1, use the promo code ‘MM’ (for Making Money). You can use this code for up to 10 days after opening the account.
