On a frosty day in January, April might seem like a world away. But the end of the tax year will come around quickly and your annual £20,000 ISA allowance will disappear with it.
There are lots of different types of ISA available, allowing you to save or invest your money in a tax-efficient way. These include cash ISAs where you can currently earn rates of up to 5.01%, or stocks and shares ISAs where you can aim to achieve long-term growth tax-free.
Alternatively, a Lifetime ISA is often a good option for those saving for their first home, and offers a generous 25% government bonus.
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In today’s environment, it is more important than ever to take advantage of your ISA allowance thanks to the rising tax burden. Dividend and capital gains tax allowances have been slashed in recent years, and capital gains tax rates were hiked in the Autumn Budget.
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Furthermore, fiscal drag is drawing many people into a higher tax threshold, while higher interest rates mean more savers are falling victim to the savings tax trap.
Opening an ISA and deciding where to put your money involves research, which can take some time. As such, you shouldn’t leave it until the last minute. To offer some food for thought, we look at where savers and investors have been putting their money so far this tax year.
High interest rates have made cash ISAs popular
Cash ISAs have seen a record year, as many savers rushed to take advantage of high savings rates while protecting their nest egg from the taxman.
Basic-rate taxpayers have to pay tax on their savings interest once it crosses the £1,000 threshold, if the funds in question are held outside of an ISA. This allowance falls to £500 for higher-rate taxpayers, and disappears completely for additional-rate taxpayers.
Until August last year, the Bank of England base rate was at a 16-year high, and many savings accounts were offering rates of around 5%. At this level, basic-rate savers could run up a tax bill as soon as the balance on their account hit around £20,000. Higher-rate taxpayers could be affected as soon as their savings hit £10,000.
Against this backdrop, it is easy to see why cash ISAs have proved popular so far this tax year.
“Savers smashed records in April, paying £11.7 billion into cash ISAs – beating every other month for the past 25 years,” says Sarah Coles, head of personal finance at Hargreaves Lansdown.
“They then remained committed, and cash ISAs drew in billions of pounds long after the traditional season was over,” she adds. “By the end of November (the most recent data), savers had put £36.3 billion in cash ISAs since the beginning of April.”
Stocks and shares ISAs: savers rushed to beat the Budget
If you have a long-term horizon and are willing to take on some investment risk, you might be better-served by a stocks and shares ISA. History suggests a diversified portfolio of stocks and shares will generally outperform cash over the long run. You need a long enough time horizon to ride out any short-term volatility, though. Ideally, this should be a minimum of five years.
“By the end of 2024, the number of Hargreaves Lansdown stocks and shares ISA clients was up 4% in a year. Over the past five years, it has risen by 50% to a new high,” says Coles. This trend spells good news for investors and the UK economy alike. Underinvestment continues to be a big problem in the UK – something the government is trying to change as part of its growth agenda.
Stocks and shares ISAs saw a particular surge of activity in the first half of the tax year, as investors rushed to top up their accounts in the lead-up to the Budget. US equity funds, global equity funds and technology investments have all been beneficiaries of the increase in ISA contributions.
The top five funds bought by ISA investors on Hargreaves Lansdown’s platform in 2024 were:
- The UBS S&P 500 Index
- The Legal & General US Index
- The Legal and General International Index Trust
- The Fidelity World Index
- The Legal & General Technology World Index Trust
Data from Fidelity International points to a similar trend. The 10 bestselling ISA funds on the platform in December included two global index funds, two US equity index funds, and a technology fund.
A record year for Lifetime ISAs
The latest HMRC figures show 2022/23 was a record-year for Lifetime ISA contributions, at £1.87 billion. More recent figures are not yet available, but Hargreaves Lansdown has reported a 24% increase in the number of people contributing to a LISA on its platform so far this tax year.
One of the perks of a Lifetime ISA is that it offers a generous 25% government bonus on anything you save. The annual LISA allowance is £4,000, which forms part of your overall £20,000 ISA allowance each year. You can use the savings pot to help buy your first home or, alternatively, to fund your retirement.
One of the downsides is that LISAs are fairly restrictive. You can only withdraw the money to purchase a home worth up to £450,000. Otherwise, you have to leave it in the tax-efficient account until you turn 60. Withdrawing the money on any other terms (other than if you are terminally ill) will result in a 25% withdrawal charge. This could leave you with less than you put in.
Just this month, a cross-party group of MPs launched a LISA review to understand whether the savings vehicle is still fit for purpose. This will look at potentially changing the rules on the withdrawal penalty and the house price cap, among other things. If the account is made more flexible, we could see even more savers opting for a Lifetime ISA in future.
