Understanding different types of ISA
There’s a few different types of ISA available, so if you’ve promised yourself that this is the year you finally get your finances in order and try saving, it makes sense to make the most of your money by understanding which type of savings account is best for you.
If you’ve not yet decided that an ISA is the right type of account for you, take a look at the 9 most important ISA questions you need to ask first, so you can decide if it’s a step in the right direction on your savings journey.
Types of ISA
How ISAs (Individual Savings Accounts) work
Each year, the government provides you with a tax free ISA allowance, this year’s is £20,000.
You can choose to pay your full allowance into a single account, or split your £20,000 between the various ISA types: Cash, Stocks and Shares, Lifetime and Innovative Finance ISAs – each designed to suit different savers’ needs.
A Junior ISA is also available, which enables you to lock money away for your children until they turn 18.
But which ISA is the one for you? To help you make the right choice, we’ve put together this useful guide to explain how they work and how each one could help you to boost your hard-earned savings.
Pros: A good all-round way to save money.
Cons: Lower returns compared to some other accounts.
Cash ISAs are the most popular. Put simply, they are savings accounts that allow you to save money without paying tax on the interest you earn. You can pay in a lump sum or add money whenever you want, as long as you don’t go over the current tax year’s annual allowance.
It means that whatever you’re saving for, whether it’s a rainy day fund or if you have a more specific financial goal in mind, a Cash ISA is a tax-efficient way of growing your savings.
You can open one from the age of 16 onwards and choose from a range of options, including:
- Easy access Cash ISA – ideal for savings that you might need to access quickly. No fixed periods, no need to give notice, just a simple account where your savings earn interest until you need them.
- Notice Cash ISA – ideal for savings that you don’t need immediate access to. You can enjoy higher interest rates than with an easy access Cash ISA without locking away your money for years at a time, but will need to give the specified amount of notice when requesting a withdrawal.
- Fixed rate Cash ISA – ideal for savings that you can afford to put away for a fixed period of time. You’re safe in the knowledge that your rate won’t reduce during the term of the account, but if you want to make a withdrawal before the end of the fixed period your provider will likely charge you.
Some banks and building societies also offer flexible terms on their Cash ISAs, allowing you to withdraw your savings and then replace them as many times as you like within the same tax year, without it counting towards your annual allowance.
Just be sure to check that the terms and conditions include flexibility before you make a withdrawal – if they don’t, then any money you withdraw will be taken from your allowance and lost for good.
You’ll also find some ISA providers allow you to mix and match their Cash ISAs, enabling you to spread your allowance between more than one type of account within the same tax year.
So if you have money that you can tie up for a longer period, but also want the comfort of knowing that, if you need to, you can access your savings, mix and match providers could be what you’re looking for.
Just like having your cake and eating it!
Stocks and Shares ISA
Pros: Potential to enjoy higher returns.
Cons: Investments can go down as well as up in value.
If you’ve always wanted to try investing in the stock market but have never been sure where to start, then a Stocks and Shares ISA could be an ideal opportunity to take your first steps.
Your returns are safe from the taxman and you can choose to either pay in a lump sum or spread your payments throughout the year, as long as they don’t exceed the current year’s ISA allowance.
With a Stocks and Shares ISA you’re investing in the stock market and because it’s more complicated than simply opening a Cash ISA, unless you’re confident enough to choose your own investments, you should seek the advice of a suitably qualified financial adviser.
The website Unbiased.co.uk can help you find a financial adviser in your local area.
However, bear in mind that as you’re investing in the stock market, whilst there is the potential for greater returns over time, the value of your investment can go down as well as up.
It’s why a Stocks and Shares ISA may only be suitable if you don’t need immediate access to your money.
Pros: The 25% government bonus makes it a great way of saving for your first home or for retirement.
Cons: Less flexible than other accounts.
A Lifetime ISA could be ideal if you’re saving for either your first home or planning ahead for your retirement. As an added bonus, the government will boost your savings up to £1,000 tax free every year on top of any interest you earn.
If you’re aged between 18 and 39-years-old you can open a Lifetime ISA and save up to £4,000 each tax year. The government will then add a 25% bonus to your savings, paid monthly, up to a maximum of £1,000 each tax year. The £4,000 counts towards your overall annual allowance, so if you have extra money spare you can make payments into any other ISAs.
Whilst the 25% bonus from the government can seem like an attractive offer, a Lifetime ISA is less flexible than other types of ISAs.
Payment into the account can continue until the age of 50, after which the account will remain open, but you can’t add any more money. Once you reach 60, your savings can be used for any purpose, but if you’re under 60 and want to withdraw money for any reason other than buying your first house, you’ll be hit with a 25% charge on the amount that you decide to withdraw.
Innovative Finance ISA
Pros: Can provide a higher rate of interest than other types of ISA.
Cons: Savings aren’t covered by the Financial Services Compensation Scheme (FSCS).
If you’re looking for a savings account that has the potential to provide you with a higher rate of interest compared to others, an Innovative Finance ISA could be right for you.
You can invest some or all of your annual allowance, and any interest that you receive is tax free.
Innovative Finance ISAs are unlike other ISAs; they work by letting you lend money to individuals and businesses that are looking to access finance in return for a set amount of interest, based on how long you’re prepared to leave your money untouched.
The investment is completed via a peer-to-peer lending platform, rather than through a bank or building society, and therefore you can benefit from savings which are passed on in the form of higher returns and lower fees.
Because of this, an Innovative Finance ISA works like a loan, meaning there’s a chance that borrowers could default on their repayments, and whilst most companies offering Innovative Finance ISAs will have a backup reserve fund set aside to protect your money should this happen, unlike most normal UK savings accounts, they’re not covered by the FSCS.
As with any form of investment, the value of your savings can go down as well as up, meaning an Innovative Finance ISA can be a more risky option.
Pros: A great way to build up a nest egg for your child.
Cons: Savings are locked away until your child reaches 18.
We all want the best start in life for our kids and a Junior ISA could be the ideal way to save for your children’s financial future, helping ensure they have a nest egg set aside for when they reach adulthood.
A Junior ISA is a long-term savings account for children under the age of 18 which allows you to invest up to the Junior ISA allowance for each year (£9,000 for the current tax year).
You can choose a Junior Cash ISA, a Junior Stocks and Shares ISA or split your contributions between the two, as long as you don’t exceed the annual allowance. Don’t forget that if you invest your money in a Junior Stocks and Shares account, as with the adult version, the value of your savings can go down as well as up.
Once it’s been set up by a parent or guardian, anyone can pay into it, but only the child can access the money once they turn 18. If they decide to keep the account open after that, it will turn into a full ISA with the standard annual allowance.
Although we don’t offer all of the accounts we’ve talked about in this article, we do offer a range of Cash ISAs, should you decide that they’re the right place for your savings.
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Financial Services Compensation Scheme
Your eligible deposits held by a UK establishment of Charter Savings Bank are protected up to a total of £85,000 by the Financial Services Compensation Scheme, the UK’s deposit protection scheme. Any deposits you hold above the limit are unlikely to be covered. Please click here for further information or visit www.fscs.org.uk.