Individual Savings Accounts (ISAs) were introduced in April 1999 to replace old-style Personal Equity Pensions (PEPs) and Tax-Exempt Special Savings Accounts (Tessas). Many people mistakenly believe ISAs to be complex; however, the truth is that they are simply tax-free wrappers into which investors can place either cash or shares.
The Cash ISA
In essence, Cash ISAs are simply savings accounts where the interest isn’t taxed; this means that it is very rare to find a normal savings account that is able pay more interest. For instance, a basic-rate taxpayer would need a savings account offering 7.5% interest to beat a cash ISA that pays 6% AER. Moreover, people in the top tax bracket would need an account that offered 10%! As with normal savings accounts, there are lots of cash ISAs available these days, including instant access, fixed rate, and accounts with base rate guarantees.
The Stocks and shares ISA
Stocks and shares ISAs are usually held in collective investment vehicles like unit or investment trusts. These are pooled investments where an asset management consultant chooses a selection of shares based on geographic or sector criteria. The value of the investment is determined by the collective performance of the shares chosen. Placing pension funds inside an ISA investment wrapper provides investors with two significant tax advantages. The first advantage is that any profits made from share price increases aren’t eligible for capital gains tax. The second is that all the tax on bonds can be reclaimed.
