A cash Individual Savings Account (ISA) is a savings account where you earn interest but don't pay tax.
ISA's were launched by the government in 1999 to provide people with a more efficient and tax free method to save money. They replaced the old Tessas and Peps.
Every single person over the age of 16 in the UK is given an ISA allowance every year. This means they are allowed to save up to £5,340 into a cash ISA or up to £10,680 into a stocks and shares ISA per year. If you do not want to put all your money into stocks and shares, you are allowed to put up to £3,600 in a cash ISA and the remainder into a stocks and shares ISA.
The ISA year runs from April 6th to April 5th. So, if you open your ISA account any time after April 6th onwards, you can continue depositing money into it until the following April 5th, when it will close for deposits. After this time it will continue to earn interest.
Cash ISAs work in exactly the same way as your bank or building society savings account works. You can choose between instant access accounts and fixed-rate accounts, for example. However, while the tax man will take away around 20% of the interest you earn (40% if you are a high rate tax payer) in a normal savings plan, he will not be able to touch your savings if they are in an ISA. The ISA acts as a wrapper which protects your cash.
How ISAs work and who they are for
Cash ISAs are a secure way of saving your money without having to pay tax on the interest earned. Financial advisers encourage anyone who wishes to open a savings account put their first £10,680 into ISAs because the tax benefits automatically mean you'll earn more money. The message is – you have an allowance, so use it!
The advantage of cash ISAs, over stocks and shares ISAs, is that there is absolutely no risk involved in investing in one. While stocks and shares ISAs earn returns according to how well the markets are doing, and have the potential to reap huge rewards as well as big losses, Cash ISAs are a safe haven. So they are ideal for anyone who has savings, would like to make a modest income from them, but does not like taking financial risks.
Pitfalls of Cash ISAs
Many ISA providers try to lure customers in by advertising high rates. However, these are usually initial rates and run for a short period, after which the interest reduces. Check the small print before signing up to an ISA and ensure you are getting what you are promised.
Like mainstream savings accounts, there are usually a number of conditions attached to cash ISA accounts. There might be penalties for withdrawals, for example. Some also have minimum amounts you can invest which could be as much as £500. The higher the interest rates, the more conditions are normally attached.
You are allowed to transfer your cash ISA to another provider's cash ISA, however not all companies will allow you to do this. The transfer process can be quite technical but this shouldn't put you off doing so as it's important to make sure you are getting the best rate on the market. Make sure you transfer the money instead of withdrawing to re-invest or you will lose the tax benefits.
Where to buy Cash ISAs
All the major banks and building societies provide ISAs, as do investment companies and other financial providers such as M&S Money, Sainsbury's and Tesco. There are many good deals online via the internet banks. National Savings & Investments provides safe, government backed, ISAs but the rates are often lower than elsewhere.
It's very important to shop around and to find the best deals. Your own bank will probably be quite keen for you to sign up with them but you can buy an ISA from whomever you wish. Price comparison websites can provide you with an idea of some of the deals on the market so it is worth looking at their lists.