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The Isa revolution 2014

Changes to the rules on individual savings accounts (Isas) mean they will become even more attractive for savers and investors. They’re a great way to protect your hard-earned cash from the tax man.

In this video I explain how Isas work and why the new rules are great news.

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Transcript

Hi. You've probably heard a lot about George Osborne's Budget last week, and in particular, his big changes to the pension system. It's really been a pensions revolution. And at the same time, Osborne also introduced new rules for Isas. I think we can say it's also been an Isa-revolution. So, that's what I'm going to look at in this video.

I really like Isas, because they're a really flexible, tax efficient way to invest and save your money. So, the fact that the chancellor's made the Isa rules even more attractive is very good news indeed.

Under the current rules, before Osborne's changes come in, you can either invest your savings in a cash Isa, which is like a savings account, or in a stocks and shares Isa, where you invest directly in shares or in investment funds like unit trusts and OEICs (open-ended investment companies).

With a cash Isa, the beauty is you pay no tax on the interest you receive. You can build up a nice cash savings pot and not pay any tax. And with the stocks and shares Isa, you won't pay any capital gains tax on the profits you make when you sell your shares, and there's a cap on the income tax you'll pay on any dividends you'll receive - it's a 10% cap.

If you're a higher rate taxpayer, and you receive dividends outside an Isa wrapper, you'll pay higher tax of around 32%. But with a stocks and shares Isa, the tax is capped at 10%.

So, even before George Osborne's rule changes, Isas are already a very attractive way to save and invest. And indeed, in the current tax year, 2013 to 2014 (about to end on 5 April), you can put up to £11,520 in an Isa and up to half of that amount, just over £5,700, can go in a cash Isa.

You can put the whole lot into a stocks and shares Isa. You can split it any proportion you like with that 50% maximum for cash. And then, for the new tax year coming in on 6 April, there's just a slight increase in the allowance, up to £11,880, with a 50% cap for cash. That's fine - a pretty attractive Isa deal already.

But, on 1 July, that's when the revolution begins. That's when the new Isa comes in, known as the ‘Nisa’ (new Isa), where there's now going to be an overall Isa cap of £15,000. So, if you've already opened up an Isa for the tax year 2014 to 2015, on 1 July, it'll automatically be moved into a Nisa.

And the beauty of a Nisa is that the overall allowance is higher at £15,000. But even better, you can put the whole lot into cash if you want, or the whole lot into stocks and shares, or any combination between the two.

And on top of that, there's no restrictions on moving your money back and forth between stocks and shares and cash. Under the current rules, you can move money from cash to stocks and shares whenever you like, but you can't move money out of stocks and shares into cash, which is a bit of a pain. That's all ending with the Nisa on 1 July.

So, there are some really nice rule changes there, which make saving into a Nisa a lot more attractive, I think.

Big question then, going forward, is: should I put the money into cash, or shares, or a combination of the two? It's obviously a complex subject. But as a really rough guide, depending on your risk profile, your attitude to risk, your circumstances, and when you think you're going to need the money you're putting into the Isa. If you think you're going to need the money in, say, two or three years’ time, you shouldn't take much risk.

If you think you won't need the money for 20 years - that's the case with me. I'm 46 now. I'm saving for retirement when I'm 65. I don't need the money for 20 years. I can afford to take a lot of risk. So, for me, I can afford to take the risk. I can put all my Isa money into a stocks and shares Isa.

But, if you think you want the money in two or three years’ time, put it all into a cash Isa. If you think it's going to be something between three and 20 years, then you can split it up as you see fit.

Of course, the downside with the cash Isa for only two or three years is you won't get much interest. But, at least you're building up the cash Isa pot. And if you then decide to keep the cash for longer in an Isa, when interest rates start to rise, you'll have a bigger cash sum protected from income tax.

Another big question is, we've seen big changes in pensions, big changes in Isas, so which should you put your money in? Pensions or Isas?

Well, there's no doubt about it. Pensions have become much more attractive, because they're now more flexible, but I would say that Isas are still even more flexible. With pensions, you can't take the money out until you're 55, and you will still have to pay some tax on a lot of the money you withdraw.

So, I think for a lot of people, it makes sense to primarily save in Isas rather than pensions. Big exception to that, though, is if you work for an employer who is willing to pay contributions into your pension. So, a lot of employers, they say, "We'll pay 5% into the employee's pension, if the employee also pays in 5%." It's well worth making that 5% contribution to trigger the matching contribution from your employer.

But once you've done that, once you've triggered that contribution from the employer, I'd say any excess savings, if you got any more money that you can afford to squirrel away, stick it into an Isa for that extra flexibility.

That extra flexibility is great, but when you do come to withdraw money from the Isa, you do need to be careful. Because bear in mind, once you've withdrawn money from the Isa, you can't pay it back in. If you take it out and then try and pay it back in two weeks later, you can't. You've lost the tax protection on that cash.

The only exception to that is if you're looking up money in the current year for your tax year, if you've only paid in £10,000 so far, you can pay in an extra £5,000 for the remainder of this tax year. But then, at the end of that tax year, the money is frozen if you like. You can withdraw it whenever you like, but you can't pay anything back in.

Also, you need to be careful if you want to transfer Isas from one provider to another. You may be unhappy with the interest rate you're getting on your cash, or you may be unhappy with the charges that are being levied by your investment provider. By all means, do the transfer, but make it very clear that's what you want to do. You want to transfer your Isa. You don't want to withdraw money. Very important.

So, that's a quick look at what I think is a major change in Isas. I think it's now a very attractive savings vehicle for a lot of people. Really, think seriously about putting some money in, if you can afford it.

I'll be back with another video next week. Until next time, good luck with your investing.

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  • RocksatBrighton

    Hi Ed,
    I’m new to investing and I find your videos helpful.
    Via a video could you explain share dividends.
    If during a year the investor buys and sells several shares who gets the dividends and when? Please explain the relevance of the declared date, Ex-Div and Paid.
    Many thanks.
    RocksatBrighton

  • Ralph

    Your generalist advice to invest in ISAs rather than Pensions (see the recent Ed B video) is fundamentally flawed. The tax free benefit offered by pensions should skew the decision massively in their favour for a vast majority of savers. Furthermore, anyone whose liabilty to income tax actually falls when they retire (and there should logically be loads of people who fall into this category) could be significantly better off.

    The only two advantages that I can see that ISAs offer over Pensions is ease of access (and this is obviously a two edged sword if the main goal is to save for retirement) and for low earning spouses who

  • Ralph

    Your generalist advice to invest in ISAs rather than Pensions (see the recent Ed B video) is fundamentally flawed. The tax free benefit offered by pensions should skew the decision massively in their favour for a vast majority of savers. Furthermore, anyone whose liabilty to income tax actually falls when they retire (and there should logically be loads of people who fall into this category) could be significantly better off by investing in a Pension rather than an ISA.

    The only two advantages that I can see that ISAs offer over Pensions is ease of access (and this is obviously a two edged sword if the main goal is to save for retirement) and for low earning spouses who have investment income that takes them above the zero UK income tax threshold. Otherwise Pensions should come out as the best option every time in my opinion.

  • Ed Bowsher

    Hi Ralph,

    Yes, a pension can, in certain circumstances, deliver a bigger tax break than an isa. But even after the latest changes, Isas are still more flexible. And that’s a big attraction.

    Ed