An ISA is an Individual Savings Account. It allows you to save and grow your money, tax free.
That’s right. No tax at all!
The UK tax year runs from the 6th of April to the 5th of April the following calendar year. During that time, you’re allowed to drop a total of £20,000 into ISAs (your ISA allowance). You can split that amount into the various types of ISAs.
There are four main types of ISAs:
There are also Junior ISAs, but being young and free, they dance to their own tune. We dive deeper into those in our guide to Junior ISAs.
You can’t open and pay money into more than one of the same types of ISA in a tax year. But you can open a new one of each type every year if you want to – and stack them up over time (but you don’t need to open a new one every year).
The only thing you can’t do, is pay into two ISAs of the same type in the same tax year.
Let’s dive into having multiple ISAs a bit more…
The different types of ISAs
You put cash in. It earns you interest. The interest you earn is tax-free. There are two main types of Cash ISA:
Variable-rate Cash ISAs, where your interest rate can change over time. Normally in-line with the Bank of England base rate, which is the interest rate banks themselves borrow money for, but also get paid the same amount for storing money with the Bank of England.
So if this increases, they sometimes pass this onto customers, and the customer gets a higher interest rate too. And if the Bank of England lowers the base rate, the customer's interest rate will often go down too.
Fixed-rate Cash ISAs, where your interest rate stays the same over a set amount of years. These often have the highest interest rates as you are agreeing to keep your money with a bank for a long period of time, normally 1-5 years.
Interest rates are super low at the moment, the best you’ll find is 1.75% (for a 5 year fixed rate), so a Cash ISA probably isn’t the best idea for long term savings.
Learn more with our guide to Cash ISAs.
Stocks and Shares ISAs
Also called ‘Investment ISAs’, these allow you to invest your money in:
- Stocks and shares, where you buy a part of the ownership of a company, called a share. And the value of these shares will go up (or down) in-line with the value of the whole company.
- Bonds, where you loan your savings to a company or the government and earn interest on the amount that you loan. Similar to when someone borrows money from a bank.
- Funds, where you buy a share of a group of investments.
You might have heard that Stocks and Shares ISAs are risky and complicated. But this is actually not true! They’re great for long-term investing, and everyone, whatever your knowledge or experience, can open one easily and start growing their savings.
With most Stocks & Shares ISA, the investments are managed by experts (unless you want to manage it yourself), who know what they’re doing with your hard earned money. They’ll typically invest in stocks and shares that keep your money safe and grow over time – so often, big successful businesses.
As a rule of thumb, you could expect to earn around 8% per year on average. Which is pretty good!
It's a much better option than saving your money in a low interest-paying Cash ISA, where the highest rate you’ll find is around 1.75%.
The problem with savings and inflation
Let’s say you manage to put away £10,000 in a Cash ISA with an interest rate of 1.75%. That’s £175 interest per year.
That’s not bad. But the problem is inflation – the general cost of everyday goods and services rising, such as food and petrol.
At the moment inflation is around 5% per year and rising further (2022). That means what you can buy with your cash is getting lower by 5% per year, or put simply, you can buy 5% less things this time next year.
Here’s an example, in the year 2000, a pint of milk cost 31p. In 2022, it costs 55p, nearly double! That’s inflation at work.
If you save your money in a Stocks and Shares ISA, you’ll grow your money on average by around 8% per year over time. So your payback from the £10,000 would be £800 per year. That’s higher than inflation, so your money will actually be able to buy more stuff this time next year! You’re winning!
Innovative Finance ISAs (IFISAs)
Innovative Finance ISAs allow you to lend out your savings to individuals or companies through what is called a “peer-to-peer lending platform” (for example, Funding Circle). This cuts out the middle-man – i.e. the bank. Borrowers then have to pay the money back over time – with interest. And most of that interest is for you.