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Understanding ISAs

 No thumbnail specified For many people an ISA – Individual Savings Account – presents them with an opportunity to benefit from tax free savings.  But in any event you should recognise the difference between the ISAs that are available, so you can choose the best one for you.   In this article we explain the different types of ISA.

When you start looking into them you will see that there are two types available.  The first one is a simple cash ISA.  This is basically a tax free savings account and as such you can withdraw your money from it should you need to at any time.  With that said however you should always read the information and small print associated with any specific ISA you are considering opening.

The second type of ISA account you can have is a stocks and shares ISA.  For many people this is the easiest way to start investing in stocks and shares, but it is important to recognise that this kind of ISA comes with risks attached.  Over time you may make more money than you would with a cash ISA, which is just as safe as a regular savings account.  But you could also lose money, depending on how the stocks and shares your money is invested in perform.  Bear this in mind before you decide which account is right for you.

You can have both types of ISA working for you if you wish however.  ISAs run according to the tax year, which is from the 6th April to the following 5th April.  So you could open a brand new cash ISA at any time in the financial year along with a stocks and shares ISA too – either with the same provider or with someone different.  Between now and the 5th April next year you can invest the maximum amount allowed in these two accounts.  Obviously it makes sense to open your new ISAs as soon as possible in the new tax year, but there’s nothing to prevent you opening one whenever you have some funds available.

But what about next year when the new tax year starts on the 6th April?  What are your choices then?

Well you have two main options here.  You can continue to invest the maximum amounts for the year yet again in the same two accounts you have now.  Alternatively however you may have spotted something better.  Not all ISAs offered by different companies will have the same charges, rates of interest and other aspects to offer you.  It stands to reason that you will end up finding something more worthwhile eventually.

In this case it would pay you to keep the original ISAs going if you wanted to maintain the tax free interest you are earning on them.  But you can also open brand new ISAs – either one or other of them or one of each – with different banks or ISA managers.  You could therefore conceivably have ten different ISAs all working for you after just five years.

It pays to think about the limits to how much you can invest in an ISA before you open one.  The limits can change at the whim of the Chancellor, but you should always try and achieve the maximum amount  in any one tax year.  The maximum limit for a cash ISA also now applies to a stocks and shares ISA.  If you have a  lump sum available it obviously makes sense to put it into one or both ISAs at the start of the tax year, or as close to it as you can get.  This will bring you the best return during the year, but, as mentioned above, you can invest at any time.

You can also start small and add to it during the year, provided the ISA you sign up for allows this.  But you must be sure you only pay in up to the maximum amount over the whole tax year.

The two different types of ISAs can be confusing for some people, and it certainly pays to work out what your own appetite for risk is before making your own choice.  You can certainly earn more with a stocks and shares ISA, but only if those stocks and shares perform well.  Not all ISAs enable you to choose the stocks and shares you will invest in either, so if you don’t like the idea of investing in companies that may not perform well, you should avoid this.

Cash ISAs are obviously a safer bet but you will get a lesser return on average as a result.  If you want a more immediate return on your money they are the better option however; stocks and shares ISAs typically take a while to produce real results.  You may have to wait several years to see a decent return on your money, because the stock market will naturally fluctuate during this time.

So you should definitely think about how long you want to tie your money up for.  You could in theory have a stocks and shares ISA for only a year.  But unless you are really lucky you probably won’t see a good return on it in that time period.

Whatever type of ISA you opt for – or even if you go for both – it is clear that they offer a good way to get some tax free interest on your money.  Just remember to explore the various ISAs available from different providers before you decide where to put your money.  And if you want to open another account with a different provider in the following tax year, you can do it to spread the risk and get a better return if it suits you to do so.

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