Given the recent announcements from George Osborne in his latest, pre-election budget about the planned changes to ISAs and the tax on savings we all pay (in the UK), there have been articles published and online discussion about whether this signals the beginning of the end for the cash ISA. One article in particular on the Guardian, goes into a great level of detail explaining why a basic rate tax payer can earn a similar amount of interest in standard savings accounts rather than needing to shelter money in a cash ISA. And they also claim it’s true for a higher rate tax payer too, although to a lesser extent.
But the key thing for me is that they miss one of the crucial points of using cash ISAs and using as much of your ISA allowance each year that you can. Yes, interest rates are currently at all time lows – and indeed, some speculate that they may fall further (source: BBC) – but that’s not saying that they’ll always be at this level. And as the interest rates inevitably rise, it will impact on the amount of interest you can earn on cash held in savings accounts. The Guardian article suggests a basic rate tax payer can save £62,500 in a standard, easy access cash savings account (whilst interest rates hover around 1.6%) before needing to pay any tax on the interest they earn. But if the rates return to higher levels, as they have done previously, then tax on interest earned becomes payable sooner. At 4%, a basic rate tax payer would only pay no tax on the interest on the first £25,000 of savings.
Whereas, if this cash had been dripped into (cash) ISAs over the years, the interest earned would continue to be tax free – forever (or at least until the government chooses to change the legislation around them!) And if the interest rates returned to the 1999 rates that were in place when the ISAs were first launched by Gordon Brown – at 6.5% – then it’d make even more sense to have your cash sheltered in an ISA.
With the rates as low as they are, it makes little difference chasing an extra fraction of a percentage point and fixing your ISA rate for more than a year, when the cash ISA rates for easy access accounts are very similar to standard cash savings accounts. The critical difference here is that if you don’t use your ISA allowance in the tax year, you can’t then use it in subsequent years – although you will still be able to use a new allowance allocation.
A final important point to note is that the changes Mr Osborne has already brought in, means its much easier now to switch ISA savings between cash and stocks and shares, so it could be said that it’d be better to put cash into a stocks and shares ISA account now (choosing some relatively low risk tracker funds, for example) and considering switching to a safer cash ISA in later years, when the interest rates return to higher levels. Either way, for me, it’s better than trusting to easy access cash accounts with the banks.
Please note that anything I write in my blog is not to be construed as offering financial advice. It is merely my viewpoint and should be used as such. Any decisions you may make should be based on your own research and often, it’s advisable to seek professional advice.