How much can I earn with a Stocks and Shares ISA?
The ISA structure is a convenient and tax-free way for first-timers to get into the stock market. But how does an “investment ISA” pay you money – and how much of that money do you get to keep?
When you’re first looking at the returns on investment ISAs you’ll be bombarded with headline percentage rates for how much your money could be making.
But how do investment ISAs work – and how much of those profits can you keep?
- How do Stocks and Shares ISAs earn money?
- How much of my Stocks and Shares ISA earnings will be tax-free?
- How much will a Stocks and Shares ISA pay out?
1 How do Stocks and Shares ISAs earn money?
You can earn money from investment ISAs as income, or capital growth. You’ll need to decide which is your priority.
Regular income could come in the form of interest or dividends, and can be used (for example) to supplement your pension.
Getting a bigger lump sum repaid at the end of your investment period could pay for a new car, or help you buy a holiday home or investment property.
- Interest is paid by government and corporate bonds.
- Government bonds (or “gilts”) usually pay out every six months.
- Corporate bonds usually pay quarterly, but might pay out monthly, twice a year, or annually.
- Dividends from shares: paid monthly, quarterly, half-yearly, annually, or “irregularly”.
- Capital gains if the overall value of the investment you’ve made has increased by the time you decide to sell some or all of your investment ISAs.
THE IMPORTANT THING TO BEAR IN MIND…
While Cash ISAs are usually free, there are costs involved with Stocks and Shares ISAs:
- Investing in a fund: an annual management charge.
- Investing via an online “platform”: you usually pay an annual platform management fee of 0.3-0.55% of the value of your investment, plus a fee to your advisor or intermediary.
- Investing via a “fund supermarket”: you’ll usually pay only one service charge.
- Buying and selling shares yourself with a share-based Stocks and Shares ISA: dealing charges based on the number of your transactions.
- Other fees: platforms might charge you if you want to switch between funds, or charge an “exit fee” or “transfer out” fee – but these are fairly rare now.
2 How much of my Stocks and Shares ISA earnings will be tax-free?
What’s really useful about an investment ISA is that it allows you to take the income tax-free.
- The money you pay into an ISA has already had tax paid on it – there’s nothing to pay when you take it out.
- Pensions, outside of ISAs, work the opposite way: you get tax relief / a tax advantage when you pay in, but the money you take out is taxed.
EVERYTHING you earn from an ISA is tax free. That includes:
- All interest payments (from government and corporate bonds)
- Rental income from property funds: are 100% tax free (if they’re held within ISAs)
- Dividends from shares and pension funds within ISAs
- Profits (capital gains) you make when you sell your investments
The only tax you have to pay on ISAs is Stamp Duty at 0.55 – on all share purchases valued at more than £1,000.
So if you use your entire £20,000 annual ISA allowance buying stocks and shares you’ll pay £95 in Stamp Duty.
Outside of ISAs, anything you earn above £12,500 (in 2019-20) is taxed.
There is an additional tax-free dividend allowance outside of ISAs of £2,000 for dividends paid on investments. But above that you’ll pay between 7.5% and 31% in tax. And you don’t want to be dreading an unexpectedly generous divided because it’s going to land you with a tax bill.
There’s also a separate tax allowance for capital gains outside of ISAs. You can make a profit of up to £12,000 (2019-20) on any assets such as stocks and shares, before you pay tax.
But you don’t want to lose track of investments which are steadily gaining in value which could benefit from the invisible tax cloaking of the ISA structure in future.
3 How well will my Stocks and Shares ISA perform?
Current interest rates are super-low (the Bank of England base rate is holding at 0.75% and doesn’t look like rising in the foreseeable future) (February 2020). So the interest you can earn if you just put your money in a Cash ISA is not going to build up in a profitable way.
Assuming a 2% interest rate (quite generous by today’s standards), £10,000 put away in a cash savings account today will compound to just £22,080 over the course of 40 years.
By contrast, investing that same £10,000 in the stock market at an annual return of, say, 5% will compound to a much more impressive £70,400 by 2060. Five times as much.
But… different types of ISA shareholdings offer different rates.
And you need to take off your investment management costs from that projected figure. Plus:
THE IMPORTANT THING TO BEAR IN MIND…
The share market goes up as well as down. (If it didn’t, everyone would invest all of their money in shares.)
You can see the fluctuations in share prices in the charts provided by independent fund research sites. So the “returns” on your investments are never guaranteed.
- Which is why it’s wise to have a good spread of investments, and also some of your money left in cash.
- You should also invest for at least five years, so you have a chance to ride out short-term fluctuations.
CHOOSE THE INVESTMENT ISA that might suit you best