Most people are familiar with the term ISA and understand what a cash ISA is. But when it comes to the world of stocks and shares ISA’s it all gets a bit murkier. This article seeks to demystify the stocks and shares ISA and help you try to decide if putting savings into this type of ISA is a good move for you.
Let’s start at the beginning…
First off, it’s important to briefly explain what an ISA is. An ISA is an ‘Individual Savings Account’ for which you won’t get taxed on any interest you earn. There is a limit (also called an allowance) on how much you can invest (£20’000 per year at the time of writing) and should you withdraw any of the money invested in a year, you won’t be able to replenish it.
For instance, if you put the full £20,000 into an ISA at the start of the tax year, and one month later decided you needed to withdraw £10,000 – you wouldn’t then be able to put that £10,000 back into the ISA until the next tax year rolls around.
There are two main types of ISA’s. Cash ISA’s and Stocks and Shares ISA’s.
Cash ISA’s are basically a bog-standard savings account. You put money in and earn interest on that money while it is in there, either at a variable rate or a fixed rate. At the time of writing, with the Bank of England base rate at 0.75% – the best rate available for a Cash ISA is around the 2% mark.
This is all well and good and generally speaking, your money is totally safe in one of these accounts, but the amount of interest you are going to be able to earn is always going to be limited to the interest rate on the account. This is where stocks and shares ISA’s come in.
If you want greater returns for your savings and you are prepared to accept some level of risk that you could see your savings diminish, then investing some or all of your ISA allowance in a stocks and shares ISA could be for you.
A stocks and shares ISA is essentially a ‘wrapper’ that covers shares purchased with your ISA allowance and allows some or all of the money made from these to be claimed tax-free. The actual amount that is tax-exempt is different depending on if the money made is via dividends or capital gains.
In the 2019-20 tax year, the first £2,000 made in dividends is tax-free. Any capital gains from the stocks are tax-free. However, everyone in the UK is subject to a capital gains limit of £12,000 (this is subject to change in subsequent tax years).
Sounds good right? Well, the flip side of this is, of course, that share prices can down as well as up – so there is an element of risk in purchasing shares and you could actually end up with less money and not more.
So in a nutshell – stocks and shares ISA’s provide a tax-efficient way to invest in shares. The great thing about them is that you could stand to make a lot more money than if you put that ISA allowance in a cash ISA. The bad thing about them is that they carry a lot more risk and you could actually end up losing money rather than making it.