What is an ISA and How Does it Work?

What is an ISA and How Does it Work?

updated September 16, 2020
What is an ISA and How Does it Work?

ISAs are a great tax-free way to save, as well as enjoy higher returns

Putting money into an ISA (“individual savings accounts”) is a very effective way to build up your savings whilst maintaining access to your funds.

Two of the most common ISAs are: “cash ISAs” which pay interest similar to a bank savings account, and “investment ISAs” (stocks, shares and bonds), into which you invest money for potentially higher returns. Bonds may include a government bond or a commercial property bond.

Any UK resident over 16 who has a National Insurance number can open a cash ISA. Typically, an investment of least £100 per month or £500 as a lump sum is required. There is an upper total investment limit of £20,000.

To open an investment ISA or “innovative finance ISA” the required age is 18 and usually, the minimum amount is at least £1,000.

Investment ISAs offer several attractive advantages

ISA investment in the UK is one of the most popular forms of “savings investment”, mainly as placing investments inside an ISA offers several key advantages:

  • An ISA investor pays no income tax on the dividend income received from the companies they’re invested in, irrespective of how much this is. Companies are sharing after-tax profits with shareholders, so the ISA investor has no tax liability. In comparison, when shares are held outside of an ISA, investors must pay tax on any dividends received over and above a pre-set dividend income limit of around £2,000. Above that basic-, higher- and additional-rate taxpayers will be charged 7.5%, 32.5% and 38.1%, respectively;
  • Within an investment ISA, no tax is payable on any realised capital gains. On the other hand, capital gains tax (CGT) must be paid on any assets held outside of an ISA that are sold at a profit over and above the government’s annual tax-free allowance (currently £12,000). These rates are 10% for basic-rate taxpayers and 20% for higher-rate taxpayers.
  • Opening an ISA online is easy: it’s possible to open an ISA with a National Insurance number, and with just a few clicks. There are a range of global, regional and national market funds and ETFs to choose from or investors can select a ready-made portfolio of global stocks and bonds. Alternatively, for those not yet sure about stocks or bonds, the ISA money can be kept in cash and allocated between shares and bonds at a later date.
  • One of the best features of an ISA is its flexibility. Your money is just as accessible as with a savings account in a bank, providing you options to withdraw partially or in full.

How to make an ISA work for you

There are several different types of cash and investment ISAs, with different risk levels. The one you choose really depends on your tolerance for risk and the amount of funds you wish to commit.

Types of ISAs to choose from:

Cash based ISAs which are effective savings plans, offering interest similar to bank rates of interest;

Investment ISAs where you can invest in funds (stocks or shares) or bonds.

There are a wide range of ISA investments to choose from, including commercial property bonds, individual index trackers, active funds and exchange-traded funds (ETFs). It’s possible to invest in more than one fund type and move between funds as often as required without affecting tax benefits. In addition, under new rules, it’s possible to withdraw and replace money in an ISA in the same tax year—again with no impact on tax benefits.

These ISAs are typically managed by an online brokerage or platform, fund management group or fund supermarket. Some of these companies charge a fee to open and hold an investment ISA, as well as for managing your investments when money is withdrawn or moved to another company.

Lifetime ISAs were launched in April 2017. Investors can save up to £4,000 a year in the “LISA” in one lump sum payment or by putting in cash whenever they can.

There is a 25% bonus (subject to a maximum limit) paid on contributions made and receivable when the investor reaches 50. This is paid monthly and will also attract interest, but no tax.

Innovative finance ISAs may include lending to businesses, property schemes and/or other situations such as crowdfunding. Any interest an investor receives from lending money to other individuals or companies through an ISA, isn’t taxed.

Risks are mitigated by spreading the investment across multiple loans or securing provider-backed safeguard funds just in case the borrower defaults.

For all types of ISAs, tax savings compound year after year, making savings even more valuable provided such income is reinvested. Furthermore, withdrawals from an ISA may be on a lump sum basis or as regular income as part of retirement spending.

How and when to withdraw funds?

Just like a bank account, partial or full withdrawals from cash ISA savings can be made at any time. Obviously, if you have an investment ISA, you will still have to go through the process of selling any shares in investment funds and obtaining cash. Even so, you usually receive your money within five business days.

Some ISA providers charge for withdrawals, some don’t. Some also allow you to re-invest the money you’ve withdrawn during the same tax year without counting towards your annual ISA allowance.

A common misunderstanding is that an ISA needs to be held for a set length of time to obtain tax-free benefits. However, generally, your money can be returned quickly and as required. Sometimes, though, withdrawals may be subject to the rules of the fund into which you have invested. In any event, the tax benefits on the rest of any savings within the ISA are still retained.

Upon death, where eligible, an ISA can be transferred to a surviving spouse or civil partner, preserving the benefits for even longer.

Getting started

Nao Group’s property investment bond offers an excellent opportunity to participate in commercial development projects in and around central London, where Nao has a strong track record of success. Investors can transfer funds from their ISA into this property bond just as they would invest into other forms of ISA.

The bond participates in an FCA regulated investment scheme via an ISA Manager and stockbroker who are also FCA regulated and is therefore ISA compliant.

The minimum investment into the commercial property bond is £1,000 with a return of 8.25% interest per annum*.

Your money is just as accessible as it would be outside an ISA but you can save money on tax. So, if you’re thinking about investing, placing funds from your ISA into a commercial property bond is a great place to start.

Sound interesting?

For more details about ISAs do have a read of the Full ISA Guide which will answer any further questions you may have or contact Nao Group today.

 

 

 

 

Always seek independent financial advice before making any financial decisions.

*There is a 0.5% per annum management fee taken off the quarterly coupon. Client receives 7.75% per annum net.

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