Top ISA tips from the experts
If you are over 50 then from tomorrow (6 October) you will be able to save an additional £3,000 in an ISA.
The new allowance will allow people born on or before 6 April 1960 to save a total of £10,200 in a stocks and shares ISA, up from £7,200. Of this, up to £5,100 can be held in a cash ISA , up from £3,600.
The rules mean that people aged 50 and over during the current tax year can save an additional £3,000 in a stocks and shares ISA or an additional £1,500 in a cash ISA. Or they can split their additional allowance between a stocks and shares and a cash ISA, as long as their cash balance does not exceed £5,100.
The new allowance has caused a headache for ISA providers; systems and marketing literature have had to be changed, and provisions made to ensure that people eligible to take advantage are actually able to.
But they have also caused confusion among ISA savers and investors.
For a start, there has been some concern that banks and building societies wouldn’t be able to allow people with fixed-rate cash ISAs the ability to top-up their accounts.
Meanwhile, people aged 50 plus keen to use their increased ISA allowance might be at loss to know where to start – should they opt for the relative safety of a cash ISA or take a little more risk and move into a stocks and shares ISA?
And within each of these options is, of course, a multitude of factors that need to be considered.
To help you understand how you might take advantage of the increased ISA allowance, Moneywise asked the ISA experts what they would be doing with the increased allowance this tax year.
The price comparison website - moneysupermarket.com
Kevin Mountford, head of banking at moneysupermarket.com, says that anyone with the financial means to do so, should be looking to use their full ISA allowance, holding a balanced portfolio of cash and stocks and shares. However, he acknowledges that many people will be more comfortable saving in cash, while others simply cannot afford to take the risks of investing their money.
For these savers, a cash ISA should be the first home for their money. But, as Mountford points out, it should also be the last place they ever dip into. For that reason, he says savers need to look beyond headline interest rates to find the right account for their circumstances.
With cash ISAs, you have two main choices; either to lock your money away in a fixed-rate account or save it in an easy access variable-rate account.
If you decide you can afford to lock away your money, then you will need to decide whether to fix for the short term (a year) or longer. Currently some of the best cash ISA rates on the market require savers to fix for up to five years.
“Savers need to think about what their future plans are, how soon they might want to access the money, and how much cash they’ve got to save,” says Mountford.
A longer term fixed-rate cash ISA, for example, might be attractive to someone who is looking to save over several years and has emergency funds elsewhere.
However, if you don’t have emergency savings and your savings means are limited to your annual ISA allowance, then Mountford recommends a variable-rate instant access ISA.
“If your cash ISA is the only savings pot you have, then don’t be tempted to lock your money away – you never know what is around the corner and it’s important to have a rainy-day fund at your disposal,” he explains. “However, once you are able to build up other savings, you might want to consider locking away your cash ISA fund in a fixed-rate account where interest rates are often more competitive.
The data provider - Defaqto:
David Black, head of banking at Defaqto, agrees that having cash savings is important. This is especially true in the current environment, where unemployment is rising and experts warn household budgets could be squeezed in the years ahead by rising interest rates and inflation.
For the over 50s who are getting closer to retirement, cash savings can also be an important income provider.
However, Black says there are several issues savers aged over 50 need to consider when it comes to using their increased ISA allowance.
The first issue is whether they have already used any of the current tax year’s ISA allowance. If not, then they will have the option to save up to £5,100 in any cash ISA from across the market and should consider the above advice from moneysupermarket.com’s Mountford.
If, however, they have already saved up to £3,600 in a cash ISA this tax year then their options are more limited.
“If you already have a cash ISA for this tax year and want to top it up, then the first thing to do is see if your current provider permits top ups,” Black says. Most will, he adds, but many might not pay the interest rate on offer at the time you first opened the account.
In addition, Black says that Egg is not allowing top ups above the £3,600 limit.
The independent financial adviser – Chelsea Financial Services:
Darius McDermott, managing director of Chelsea Financial Services, is not a fan of cash ISAs. “In previous years, we were impressed with the potential returns cash ISAs offered but this year, average rates have fallen and the returns are very poor,” he says.
McDermott believes that people who are able to take more risk with their money really should be looking at stocks and shares ISAs: “The type of investment they choose should come down to their existing portfolio, their attitude to risk and how soon they might need access to their cash,” he says.
For people with a low appetite for risk, McDermott likes strategic corporate bond funds. “These allow the manager to move between investment grades and different types of corporate bonds to find value,” he explains.
McDermott rates the Legal & General Dynamic Bond fund, which he says is small enough to be flexible. Alternatively, the M&G Optimal Income fund has “the best bond team in the market”.
In terms of medium risk recommendations, McDermott believes an equity income fund, such as the M&G’s Recovery fund or the Standard Life Equity High Income UK fund, offer consistency and the potential for growth, if you reinvest your income.
And for those with a higher risk appetite, he points to the emerging markets. “Our research shows that investors are very underweighted in the emerging markets because they are put off by the high volatility,” McDermott says. “But I think this is a mistake; someone in their early 50s who is able to tie up their money for 10 years could cash in on the huge growth potential this part of the world offers.
Rather than opt for a country or region-specific fund, McDermott prefers to take a more diversified approach. He likes the Ignis Hexum Global Emerging Market fund, which he says has an above-average performance but with a lower risk than others in the sector.
The investment fund managers - Fidelity Investment:
Rob Fisher, head of UK personal investments at Fidelity Investment, says around 60% of its ISA customers will qualify for the higher allowance, and he is optimistic that many will take advantage sooner rather than later.
“Certainly it makes sense for investors to move their money into an ISA as early as they can, as there is no point in leaving it in an environment where it will be taxed,” he explains.
The outlook for taxes means saving or investing in an ISA makes even more sense, says Fisher. “In previous years, some people took the tax benefits of ISAs for granted. But now, as we head towards a harsher tax climate, the flexibility of using an ISA to shelter your money from the taxman makes perfect sense.”
While Fisher believes there is a case for saving your money in a cash ISA, he says low interest rates mean many people looking for bigger growth or income should not rule out stocks and shares ISAs.
“It depends on what they want the ISA for and what level of risk they want to take,” he adds. “This year has been a reminder that stocks can be rewarding.”
Equities have had a rough ride over the past 18 months but, since March this year, there has been a rally on the stockmarket. Fisher hopes that this has renewed people’s confidence in stocks and shares: “This year has been a reminder that stocks can be rewarding.”
He adds that the rally doesn’t mean it is too late for investors to benefit. “The market rally needs to be seen in context – there is still value to be had in equities. Equally, if people are looking for a less risky asset class and also want a return than they would probably get from cash, then corporate bonds and gilts also still offer good value.”
The opportunity to save more in an ISA is great news for people aged over 50, says Fisher, as it should have a long-term positive impact on their readiness for retirement.
“Pensions are the one tax wrapper that stand up alongside ISAs in terms of tax benefits – but the downside is access to your money is restricted,” he explains. “People should be looking to supplement their pension with an ISA. A couple aged over 50 can now save over £20,000 in an ISA, which should make a difference when it comes to making up any retirement shortfalls they are facing.
On a personal level, Fisher says his current ISA is in Fidelity’s Moneybuilder Income fund, which is invested in investment-grade corporate bonds.
The stockbroker - The Share Centre:
Andy Parsons, advice team manager at The Share Centre, also urges people aged over 50 to use their increased ISA allowance, and believes that for many, a stocks and shares ISA is the way to go.
“Being able to take advantage of an additional £3,000 tax-efficient ISA allowance is great news, especially considering where the stockmarket has been,” he adds. “Yes, we are a long way off the height of the stockmarket, but if investors are in it for the long term, then there is the potential for growth there.”
However, Parsons is concerned that some people might not bother using their additional allowance because they think they cannot afford to: “Don’t be put off by the sum of £3,000 – this is the maximum extra you can invest. It’s fine to top-up your ISA by just £1,000 for example.”
He also recommends drip-feeding money into an ISA on a regular basis – known as pound cost averaging.
One benefit of this is that you’ll spread the cost of increasing your ISA balance over the next six months. “This makes increasing your ISA contribution more affordable – plus, you’ll get into a savings habit, and you probably won’t miss the money much because you will have built your lifestyle around it,” he says.
The other big advantage of pound cost averaging is that this investment method effectively smoothes out the peaks and troughs of share prices over time.
“It’s impossible to call the bottom of the market, which is why I’m such an advocator of pound cost averaging,” Parsons says. “Statistics show this investment method pays off over the long-term as you take advantage of all market conditions. While we have seen good days in the stockmarket, there is still underlying volatility - so this is particularly important.”
He adds that investors aged over 50 shouldn’t wait until the end of the tax year to throw money into their ISA. For a start, you will have missed out on six months tax-free growth. Plus, no one knows where the stockmaket will be by then, and Parsons warns that you could get less for your money.
If you have money tied up in another non-ISA investment then you might be tempted to move up to £3,000 into your stocks and shares ISA – or up to £10,200 if you have yet to use any of your allowance this tax year.
However, Parsons urges caution; while he agrees that an ISA should always be the first place you invest your money, you may be hit with penalty charges or fees, and these could offset the tax benefits of your ISA.
Alternatively, you may be considering moving any cash savings you have into your stocks and shares ISA. But again, Parsons issues a word of warning: “Everyone needs a rainy-day emergency fund of at least three months' income. If you can’t afford to lose this money, you shouldn’t be investing it.”
Parsons won’t be able to take advantage of the increased ISA allowance until it comes into force for all ages next April. But if he could, he says he’d avoid one single investment and would instead look to diversify by splitting his money across four or five funds.
For a medium-risk investor, Parsons suggests a mix of equities and bonds in a cautious managed fund – he likes Investec Cautious Managed fund. Next, he would want exposure to the UK through a recovery fund such as the M&G Recovery fund or the Legal & General UK Alpha fund.
In order to add a bit of spice to the mix, Parsons would want exposure to Asia and the emerging markets through a fund such as First State Asia Pacific Leader.
Finally, he would want a US-invested fund to take advantage of the country’s global brand and the ‘Obama effect’.
The online stockbroker and fund supermarket - Interactive Investor:
Rebecca O’Keeffe, head of investment products at Interactive Investor, says that, for investors who hold investments outside of an ISA wrapper, the increased allowance is the perfect opportunity to reduce their capital gains tax (CGT) exposure using a process known as ‘bed and ISA’.
This effectively enables you to sell non-ISA investments (shares or units) and then instantly buy these back within an ISA wrapper. This not only allows a particular investment to grow tax efficiently, but also ensures that further gains are free of CGT.
O’Keeffe gives the example of an investor who bought £3,000 of shares in a bank back in March. Assuming these were now worth £21,000, this is an £18,000 capital gain. CGT is due on any capital gain over £10,100 – in this case, £7,900.
However, the investor could sell up to £10,200 of their existing holdings and buy them back within an ISA account straight away. This has the advantage of ring-fencing these holdings from future tax and also availing of some of your annual CGT allowance.
"You are also not exposed to being out of the market as the sale and repurchase happens at the same time. If you did this again after 6 April 2010 you'd have sheltered the entire amount from the taxman and all future growth would be free of any CGT and further income tax," O'Keeffe adds.
If you are considering this option, then you should be aware that you might be charged sales or purchase commission, and 0.5% stamp duty on shares. If you have used up your annual CGT allowance elsewhere you would also need to think carefully and possibly seek financial advice.
O’Keeffe is also a fan of the benefits of pound cost averaging – especially during volatile periods. However, she says there may be a charge for this: “Rather than having to price in the commission costs, people should look for a broker that offers a regular investment option.”
In terms of potential investments for your ISA, O’Keeffe likes mutli-manager funds such as Legal & General’s. “The manager of these types of funds will be doing the picking and choosing for you and monitoring the underlying investments,” she explains.
The Legal & General Multi Manager fund is particularly attractive, she adds, because there is 0% initial commission and an annual management charge of just 1%.
“Multi manager funds were all the rage a while back but were criticised for having high entry levels and charges,” O’Keeffe adds. “But Legal & General’s range breaks the mould as it is very price efficient.”
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.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
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.
A hugely unpopular tax paid on property and share purchases. Stamp duty on property is levied at 1% for purchases over £125,000 (£250,000 for first-time buyers) which then moves up at a tiered rate. For property between £125k and £250k you pay 1%, then 3% from £250k up to £500k and then 4% from £500k to £1m and then 5% for properties over £1m. But unlike income tax, which is “tiered” and different rates kick in at different levels, stamp duty is a “slab” tax where you pay the rate on the whole purchase price of the property. On shares, stamp duty is charged at a flat rate of 0.5% on all share purchases. Figures correct as of May 2011.
The familiar name given to securities issued by the British government and issued to raise money to bridge the gap between what the government spends and what it earns in tax revenue. Back in 1997, the entire stock of outstanding gilts was £275bn; by October 2010 it had surpassed £1,000bn. Gilts are issued throughout the year by the Debt Management Office and are essentially investment bonds backed by HM Treasury & Customs and considered a very safe investment because the British government has never defaulted on its debts and this security is reflected in the UK’s AAA-rating for its debt. Gilts work in a similar way to bonds and are another variant on fixed-income securities.
Generic, loosely-defined term for markets in a newly industrialised or Third World country that is in the process of moving from a closed economy to an open market economy while building accountability within the system. The World Bank recognises 28 countries as emerging markets, including Argentina, Brazil, China, Czech Republic, Egypt, India, Israel, Morocco, Russia and Venezuela. Because these countries carry additional political, economic and currency risks, investors in emerging markets should accept volatile returns. There is potential to make large profit at the risk of large losses.
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.
Annual management charge
If you put money in an investment or pension fund, you’ll not only pay a fee when you initially invest (see Allocation Rate) but also a fee every year based on a percentage of the money the fund manages on your behalf. Known as the AMC, the actual percentage varies according to the particular fund, but the industry average for active managed funds is 1.5%.
Capital gains tax
If you buy an asset – shares, a second home, arts and antiques – and then sell it at a later date and make a profit, that profit could be subject to CGT. You don’t pay CGT on selling your main home (which is why MPs “flipped” theirs so regularly) or any securities sheltered in an ISA. Individuals get an annual CGT allowance (£10,600 in 2010/2011) but if you have substantial assets it’s worth paying an accountant to sort it for you.
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.
Where APR is the rate charged for money borrowed, Annual equivalent rate is how interest is calculated on money saved. The AER takes into account the frequency the product pays interest and how that interest compounds. So, if two savings products pay the same rate of interest but one pays interest more frequently, that account compounds the interest more frequently and will have a higher AER.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).