We love our Isas and so does the Treasury. In recent years, the government has expanded the number available and now there are seven types to choose between. All are tax free. Below are the details of the seven schemes.
You are not limited to choosing just one, but there is a cap on how much you can pay in each year, which is £20,000 across any Isas you own.
1. Cash Isa
Best for: Short-term savings
Cash Isas, available to anyone over the age of 16, pay a set amount of interest each year. They can be a good option for anyone who does not want to take a risk with their savings and likes the idea of a promised return.
Be aware, however, that interest paid to savers through a cash Isa is likely to be well below the rate of inflation so your savings will be shrinking in real terms.
Inflation is at 5.5 per cent and the war in Ukraine means prices will rise higher over the coming months. In contrast, the top interest rate offered on an easy-access Isa is 0.82 per cent with Yorkshire Building Society — and that’s only if you have savings of at least £50,000.
Advertisement
Cash Isas are best-suited to those with short-term savings goals such as saving for a wedding or a deposit for a home.
Money held in a cash Isa is covered by the Financial Services Compensation Scheme (FSCS). This means you are protected up to a total of £85,000 should your provider go bust.
2. Stocks and shares Isa
Best for: Long-term savings
If you have a long-term savings goal, then a stocks and shares Isa is likely to be a sensible option.
Unlike a cash Isa, there is no predictability on your returns. You may even lose money if your investments do not perform as well as hoped. You could invest in a fund that spreads money across a broad range of investments to reduce risk.
BGF World Energy, the best-performing investment fund in 2021, grew 42 per cent across the year, according to data from the research firm Morningstar. In 2020 the best-performing fund, Baillie Gifford American, returned 122 per cent.
Advertisement
Beyond funds, other options include individual company stocks, government bonds and commodities such as gold.
Financial advisers generally recommend that you should opt for a stocks and shares Isa only if you do not plan to withdraw the money for at least five years.
Investment Isas are covered by the FSCS. This means investors can claim up to £85,000 in compensation if their provider stops trading, as long as it is regulated by the Financial Conduct Authority
3. Innovative Isa
Best for: Savers willing to take a higher risk
An innovative finance Isa allows you to invest in peer-to-peer lending. This is where investors lend money to individuals or businesses through a peer-to-peer platform and make interest.
Investing in peer-to-peer through an Isa means money earned is tax-free. But takeup of innovative Isas, which were launched in 2016, has been slow. The peer-to-peer market has struggled over the past few years, as a result of tighter regulation and the pandemic putting further pressure on small businesses. A number of high-profile providers have shut down in the past few years.
Advertisement
Customers also say it is difficult to withdraw their investments. Innovative Isas are not covered by the FSCS, so your money is at risk.
4. Lifetime Isa
Best for: First-time buyers or those looking for a pension alternative
The Lifetime Isa (Lisa) has a dual purpose. It is designed for first-time buyers or those looking to save for retirement.
Savers can pay up to £4,000 into a Lisa each tax year, and the government will add a 25 per cent bonus. So if you pay in £4,000, the government will boost this to £5,000.
You can save into a cash or investment Lisa. The cash option will pay a set level of interest, and may be more suitable for those looking to buy a home in the near future. The stocks and shares option is more suitable for retirement or long-term savings, as returns will depend on the performance of your investments and your money may fluctuate.
A Lisa can be opened by savers aged 18 to 39, although you can continue paying into one until you turn 50.
Advertisement
You cannot withdraw from a Lisa until you are 60 without paying a 25 per cent penalty, unless you are using the money to buy your first property (which must not cost more than £450,000) or you are terminally ill and have less than 12 months to live.
5. Help-to-buy Isa
Best for: First-time buyers
Help to Buy Isas were launched by the government in December 2015 to help first-time buyers to save for a home. You can pay in up to £200 a month, and the government will boost this by 25 per cent, up to a total of £3,000.
The Isas are now closed for new applicants. But if you already have one, you can continue saving into it until November 2029. You then have a further 12 months to claim the government bonus.
● The savings account that gives you £1,000 a year for free
● Saving through the ages: what to put away and when
● Not too big, not too small: the Goldilocks approach to your Isa
6. Aim Isa
Best for: Investors seeking to reduce inheritance tax
An Aim Isa is essentially an investment Isa that is made up of companies listed on the London Stock Exchange’s Alternative Investment Market (Aim).
Advertisement
Investing in Aim-listed companies can be risky because they tend to be smaller and less established than companies on the main London Stock Exchange.
But for investors, the benefit of Aim-listed companies is they may qualify for business relief. Investing in a company that does so means your investment may not be subject to inheritance tax (IHT) after your death. To qualify for IHT relief, you must have held shares in a company for at least two years and still hold them at the time of your death.
Inheritance tax of 40 per cent is charged on assets worth more than £325,000, although if you are a homeowner you get a further £175,000 allowance a slong as you leave the property to your children or grandchildren. A couple who are married or in a civil partnership can combine their allowance, meaning IHT may be due only on assets worth more than £1 million.
The majority of people in the UK will not have to worry about inheritance tax, so Aim Isas are usually considered only by investors with assets above £1 million (assets include the family home, cash savings and investments outside a pension).
7. Junior Isa
Best for: Children under 18
A Junior Isa (Jisa) is a tax-free way to save for a child. All money in the account belongs to the child and can be withdrawn when they turn 18 — although from 16 they can make decisions about where their money is saved and invested. At 18, it converts to an adult Isa.
Like a traditional adult Isa, there are cash and investment Jisa options. The cash option may be more suitable if your child is older and they are likely to need the money within the next few years, perhaps to help with study costs, a car or other living expenses. The stocks and shares Jisa is likely to be more suitable if your child is younger.
Investing does not mean taking huge risks with your child’s savings. You can adjust your risk level to something you are comfortable with.
Not sure which provider to pick? See here for the Times Money Mentor round-up of the best stocks and shares Isas.
