Tax-free savings accounts known as ISAs (Individual Savings Accounts) have been around for more than a decade and a half, but a surprising number of people don’t understand how they work.
While the savviest savers are nurturing their ISAs like an immaculately well-kept home, introducing new touches here, updating there and keeping away pests, such as low interest rates, high charges and poor performance that eat into returns, others have left their money untended.
Read Annie's guide to common investment mistakes
Other than simply neglecting your cash pile, there are two fundamental mistakes ISA savers often make.
The first is falsely believing that you can have only one ISA ever and doggedly topping up the account you opened many years ago with your annual allowance. Many savers do not realise that you can not only invest somewhere different every year, but you can also move your money or split it.
The second error is made by those who do realise that you can invest money somewhere different each year, but who have accumulated a dozen or more accounts, perhaps languishing at poor rates, which could benefit from being amalgamated.
So if you are an ISA saver who has allowed your cash pot to gather dust, now might be a good time to do some polishing and decluttering.
Find out how to transfer an ISA
Make a list
ISA accounts often go untended because you can set them up and forget about them.
You don’t need to include the interest on your tax return, so it’s tempting to bin the statements or push them to the back of a drawer.
If you have more than one account, get all the information together and make a list of the exact names of the accounts you hold and the rate they are paying, so you can compare your current holdings with what you might switch to.
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Understand the new rules
ISA investing used to be hampered by strict rules, with a cap on how much of your annual allowance you could hold in cash, which types of shares you could invest in if you wanted stock-market exposure, and restrictions on paying money back into your ISA account if you had to withdraw it during the tax year.
The rules are now much more user-friendly and flexible, both for new investments and savings already set aside. For the tax year 2018/2019, if you have new money to invest, you can pay in £20,000 in a year.
How do ISAs save you tax?
How many ISA accounts?
You can still pay into only one stocks and shares ISA in each tax year, but you can also have a cash ISA with the same or a different provider – in other words a maximum of two ISA accounts each year as long as they are of different types.
You can, however, use different providers each year if you want to, with no need to switch. So after two years you could theoretically have opened accounts with four different providers.
Your allowance for the year expires on April 5 (the end of the tax year) and if you haven’t used it all, you lose it. You cannot roll the allowance over to invest more in the following year.
Mix and match
You can put the whole sum into a single stocks and shares ISA, or put the whole amount into a cash ISA. And under the new rules you can now split the money between stocks and shares ISAs and cash ISAs in any way you like.
The only restriction is that, however you arrange your funds, you must not pay in more than £20,000 a year altogether.
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Top up the tank
If you take money out of your ISA you can pay the same amount back in again with no worries about going over the limit.
In the past, if you had already paid in the maximum, the replacement of withdrawn funds would have taken you over your allowance. That restriction ended in April 2016 as long as the money withdrawn is replaced within the same tax year.
What are the different types of ISA?
Make your plan
Draw up a list of your existing holdings, then give some thought to rearranging them and consider whether to add to them or open another account.
Look at the best-buy tables on the internet or in the newspapers. If you see an account that looks better than one you’ve got, do check to make sure it suits your needs.
You can often get better rates if you tie up your money for several months or years, use an internet-only provider or choose an ISA tied to another product such as a current account.
If you might need the money at short notice, have to use your neighbour’s computer because you don’t have your own, or will have to change your bank to get just a few pounds more, consider if the move is worth the hassle. But if you can take advantage of a better deal, go for it.
Should you invest in a stocks and shares ISA?
Time to trim
If you have multiple accounts, you may want to rationalise them. Do you want just one for ease of management? Or do you want two – one shares and one cash – or perhaps several accounts, but not as many as you seem to have accumulated?
In practical terms, as a result of set-up or management charges you will probably have just one stocks and shares account with a single provider and top it up each year. You’ll stick with it from one year to the next unless you choose to move your money somewhere completely different.
Having more than one cash ISA account is much more usual and not a bad idea at all because you might want, for instance, to take advantage of a fixed-rate deal that lasts more than one year, available from a particular provider, and then go for a different offer from another provider the following year. You may also be able to phase a series of fixed-rate maturity dates to provide income.
If you had saved the maximum cash ISA allowance each year since the accounts became available in 1999 you could have paid in more than £140,000, which would, of course, have accrued interest.
If that money is in a single bank or building society, it exceeds the £85,000 deposit protection afforded by the Financial Services Compensation Scheme, which guarantees your money if a provider goes bust.
Putting your eggs in more than one basket is a good idea if you wish to retain this protection.
Seven signs that you need to get on top of your finances
How to switch
You need to appreciate the difference between ‘opening’ an ISA and ‘transferring’ one.
Banks and building societies often do not make this clear and use the same forms, headed ‘Application to Open an ISA’, for both new accounts and switches from other providers.
Although you can ‘open’ only one new cash ISA each year, you can transfer your money as often as you like (or at least as often as the provider’s terms and conditions allow). That’s because a transfer of previous years’ allowances is not a new ISA and does not count as ‘paying in’.
When looking for a good new account, look out for the key words ‘Accepts transfers in’.
All ISA providers must allow transfers out, but many don’t accept transfers in, or indeed switches between their own accounts.
As long as the provider or the account terms allow it, you can transfer all or part of your ISA savings from previous years (those dating from before the current tax year) to a new provider at any time.
The ISA rules allow complete flexibility, so do some research. Some individual providers may have their own restrictions on whether they will let you move or not, particularly where fixed rates are concerned.
If you want to transfer your allowance for the current tax year, you may do so (if the account conditions permit it) but you must transfer it all. Part-transfers are not permitted for the current tax year’s allowance.
Can you inherit an ISA from a spouse?
Since cash deposit rates are low, you might want to consider investing in shares in the hope of a better return.
This used to be off-putting for more cautious savers because it was a one-way street. The old ISA rules did not allow a switch from shares back into cash. Now this restriction is lifted and you can move back into cash without losing your tax-free protection.
Do, however, be sure you are comfortable with the level of risk you are taking with your money. Remember, as the saying goes, past performance is not a guide to future performance.
Choosing a shares-based ISA is not very different from investing outside a tax-free environment, which Saga Magazine has covered in previous issues. You need to consider how you intend to invest.
Again, research is well worth the effort, so compare service levels and charges as these will vary depending on how much you are putting aside and how frequently you will switch between different shares or funds.
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