Savers abandon cash ISAs
An estimated 4.3 million savers plan to withdraw their tax-free savings from their ISAs this year, potentially gifting the taxman £39 million in extra revenue as a result.
Falling interest rates, combined with the need for the extra money and the belief that better rates can be found elsewhere, will lead the majority of savers to call on their funds, according to research by uSwitch.com.
Since October last year the Bank of England has slashed interest rates from 5% to just 1%. The central bank’s figures show that the average rate on a cash ISA at the end of January was 1.38%, down from 5.06% in the same month last year.
With the average cash ISA balance at £2,200, it is feared that a total of £9.5 billion could be withdrawn from cash ISAs - which would result in a total loss of £196 million in tax-free interest. However, experts have urged savers to stick with their accounts as low rates will not last forever.
“There is no getting away from the fact that savers have been the sacrificial lambs of the plummeting base rate,” says Rumina Hassam, personal finance expert at Switch.com. “Low rates will not last forever and as soon as the base rate starts to climb again, savings rates will follow suit.”
Andrew Hagger, a spokesperson for Moneynet agrees: “It’s easy to see why savers are turning their backs on these once much-loved savings accounts, but people shouldn’t act in haste and withdraw their money especially if they’ve been saving since ISAs were introduced back in April 1999.”
So, if you've fallen out of love with cash ISAs, what options do you have?
Keeping it in cash
Once you withdraw your money from an ISA you can't put it back in, unless you haven't used all your ISA allowance for the current tax year, so it's important to have a plan in place before you go down this road.
If you plan on depositing your cash ISA into an ordinary savings account, any interest you earn will be subject to tax.
So, while a balance of £10,000 in a cash ISA paying 2.05% would make just £205 a year, a basic-rate taxpayer would need to find a savings account paying more than 2.57% to make more in interest (£205.60), while higher-rate taxpayers would need an account paying more than 3.42% (£205.20).
Moving cash from your ISA into an ordinary savings account doesn't make a lot of sense - especially as rates on fixed and instant access deals have taken as much of a battering as cash ISAs have.
But that's not to say that you shouldn't keep some or all of your ISA savings in cash. The current climate of rising unemployment means that it remains sensible to have access to some or all of your savings in case of emergency.
Finding a new cash ISA that pays a better rate is another option. If you haven't yet used your ISA allowance for 2008/09, then there is still time to find a new ISA that accepts transfers and move your ISA savings from previous tax years.
Many institutions offer cash ISAs that allow you to transfer in your balance. If you want to transfer your balance, start by contacting the new provider and applying for a transfer. You will be asked to fill out a cash ISA transfer form so your balance is treated as a transfer and not as an account closure.
Once you’ve filled out the form and sent it, along with the required ID proofs to your new provider, you can sit back and let them do the legwork. How long it takes varies, and it can take longer towards the end of the tax year.
Moving your savings into a stocks and shares ISAs
You can invest up to an additional £7,200 in a stocks and shares ISA each tax year, minus any amount you have invested in a cash ISA. New rules introduced in April 2008 mean you can now transfer your cash ISA into a stocks and shares ISA. But, be warned - transfers are only one-way so once your money is in a stocks and shares ISA you cannot switch it back into a cash ISA.
According to the broker Hargreaves Lansdown, there has been an increase in the number of customers transferring their cash ISA balances into stocks and shares ISAs.
“Investors were reluctant to make the move [into stocks and shares ISAs] last year because returns on cash were relatively high and the stockmarket was highly volatile,” says Meera Patel, a senior analyst at Hargreaves Lansdown.
“But with cash providing such a poor return, we are seeing investors prepared to take a greater risk with their savings as we head towards 0% interest rates this year.”
Patel says that corporate bonds are seeing an increase in interest. These are traditionally seen as a halfway house between savings and shares - riskier than savings accounts but less risky than the stockmarket.
“If income is your main objective, then corporate bonds look like the place to be right now,” says Patel. “You can get rates of around 5% for the most cautious investment-grade type bond fund, and up to 16% for the highest-risk funds.”
She recommends the M&G Optimal Income Fund as a solid holding. “This fund invests in all areas of the corporate bond market. It has a ‘go anywhere' approach and currently yields around 7%.”
For those investors willing to take a serious risk with their cash, Patel points to JPMorgan's Global High Yield Bond Fund. “We do not specifically recommend this fund, but it has one of the highest yields in its sector. This is a very very high-risk fund that offers investors a potential yield of 16% - but it is high for a reason.”
However, Jason Witcombe, a director at independent financial adviser Evolve Financial Planning, warns that people thinking of transferring their savings from cash into a stocks and shares ISA need to be comfortable with the risk involved as their capital is not guaranteed.
“You need to be prepared to invest for the long-term and to ride out the highs and lows of equity investing,” he says. “If you are concerned about the risk to your cash, it could be worth drip-feeding the account rather than investing a lump sum.”
If you are happy with the risks and timescale involved with investing, contact the provider you want to manage your investment and ask for an application form. If you already have a cash ISA with the stocks and shares ISA provider, just ask for a transfer form.
Remember to keep a close eye on your investments, and remember to review your portfolio at least once a year.
The general term for the rate of income from an investment expressed as an annual percentage and based on its current market value. For example, if a corporate bond or gilt originally sold at £100 par value with a coupon of 10% is bought for £100 then the coupon and the yield are the same at 10%, or £10. But if an investor buys the bond for £125, its coupon is still 10% (or £10) and the investor receives £10 but as the investor bought the bond for £125 (not £100) the yield on the investment is 8%.
The ISA rules allow investors to transfer money from an uncompetitive savings account with one provider into one from another provider that pays a better rate of interest. The bank to which you are transferring the money must do the transfer process, as withdrawing the money from the ISA wrapper means you lose the tax-free status. You can transfer a cash ISA into a stocks and shares ISA, but not the other way around and the current tax year’s cash ISAs must be moved whole to a single provider, but previous years’ ISAs can be split between new providers.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.
Corporate bonds are one of the main ways companies can raise money (the other is by issuing shares) by borrowing from the markets at a fixed rate of interest (the reason why they are also known as “fixed-interest securities”), which is called the “coupon”, paid twice yearly. But the nominal value of the bond – usually £100 – can fluctuate depending on the fortunes of the company and also the economy. However it will repay the original amount on maturity.
Also referred to as the bank rate or the minimum lending rate, the Bank of England base rate is the lowest rate the Bank uses to discount bills of exchange. This affects consumers as it is used by mainstream lenders and banks as the basis for calculating interest rates on mortgages, loans and savings.
There are limits to how much you can invest in any tax year. For 2011/12, the limit is £10,680. Of that, the maximum you can invest in cash is £5,340 and the balance of £5,340 can be invested in shares (individual company shares or investment funds). If you don’t take the cash ISA allowance, you can invest up to £10,680 into a stocks and shares ISA.