Interest & ISAs: How It All Works
ISAs are known for being a particularly tax-efficient way of gaining returns from interest or investment, depending on the ISA type. But, having said that – what exactly does that mean? And how does it all work? We’ve got the information you need to know.
What is an ISA?
An ISA (Individual Savings Account) is an account where the returns or interest you gain from the money within that account is protected from the taxman – specifically, this applies to capital gains tax and income tax.
This means that these types of accounts are an excellent way to ensure that your savings are tax-efficient. There is a yearly allowance that is put on
The ISA allowance for this year is £20,000 – this means that you are able to invest up to £20,000 each tax year into either an ISA or a variety of ISAs.
How do these gain returns?
The returns on ISA accounts depends on the type of account you have opened.
Cash ISAs function like a savings account – the interest rate is offered by the provider and the money you put into this account will gain interest according to that interest rate.
Interest rates for Cash ISAs are at a historical low at the moment – which isn’t ideal – but that shouldn’t stop you from considering a Cash ISA; it isn’t all about interest rates, and there are some great upsides to Cash ISAs such as having instant access to your cash (which isn’t possible with most of the other types of ISAs).
You can also achieve slightly higher interest rates on Cash ISAs if you choose a longer term for a fixed term Cash ISA, so there is potential for slightly higher rates.
An Investment ISA is a way to invest which keeps your investment returns within the ISA wrapper.
Depending on the ISA you choose, you could have access to higher returns or lower returns – this does tend to be linked to risk, but not necessarily. Different accounts will offer different returns – so you will select your predicted return rates when you select your account.
The returns gained on a Lifetime ISA are through a government ‘boost’ – that is to say, the government will give a 25% boost to the amount of money you have put into the account, up to a ceiling of £4000.
That means that each year, you have the potential to receive a bonus of £1000 each year – which is very much not to be sniffed at.
You can choose between having a Cash LISA or an Investment LISA; so the money within your account may either be invested and gain further returns, or simply sit gaining interest like a savings account.
You can either open a Cash JISA or an Investment JISA; so, while your pennies are locked away for the long-term (they can only be accessed by the child in question once they turn 18) they will earn interest in the same way that Cash or Investment ISAs do – depending on which kind of ISA type you have opted for.
Why are Some Interest rates Higher than Others?
Interest rates will vary between account type and provider.
You can get some really attractive interest rates on certain accounts; however they do tend to come with a higher risk profile. So, since a Peer to Peer ISA (for example) is more suited to an investor who has more experience and a higher risk profile – but it does offer very attractive returns.