There’s not much of our money that we can hide away from the prying eyes of the taxman, but an ISA is one way of doing it.
ISA stands for Individual Savings Account and it’s simply a special type of savings and investment account, which is more or less immune from tax.
Think of an ISA as being like a shark cage, with your money floating around inside it completely protected from any encircling tax sharks. So an ISA isn’t actually an investment itself, but more of a protective wrapper into which you can put your money.
As long as your money remains in the ISA, then you do not have to pay any tax on it. Once you withdraw it, or if you close the account entirely, then it becomes taxable again. In other words, you want to keep your money inside the shark cage for as long as possible!
This last point is particularly important if you want to move your ISA from one provider to another (to get a higher rate of interest perhaps). Do not close your original ISA account because, if you do, your money will lose its tax protection. Instead you need to transfer your ISA from one provider to the other. The provider to which you want to transfer will be able to provide information about how to do this.
There are set limits as to how much money you can put into an ISA — more on these in a minute. These limits apply to each tax year, which runs from 6 April to 5 April the following year.
A little history
ISAs were introduced in 1999, replacing a similar scheme called PEPs that ran from 1987 to 1999.
The rules for ISAs have been changed a number of times since they were first introduced. Some of the changes have made them a little simpler to understand (hurrah!) while others had added a little complication (boo!). And since governments love to tinker with such things, there’s no doubt we’ll see more rule changes in future.
Stocks & Shares ISA
They are two main types of ISA. The first is a Stocks & Shares ISA.
Everyone aged 18 and above can put up to £15,000 into a Stocks & Shares ISA for the 2014/15 tax year, and this will rise to £15,240 for the 2015/16 tax year.
Find out how you can get a Stocks & Shares ISA using the Motley Fool Share Dealing Service.
The second type of ISA is a Cash ISA. Unlike Stocks & Shares ISAs, the minimum age limit for cash ISAs is 16.
You can put up to £15,000 into a cash ISA for the 2014/15 tax year, and this will also rise to £15,240 for the 2015/16 tax year.
A bit of each?
If you like, you can open both a cash ISA and a Stocks & Shares ISA in the same tax year. However, the total amount you put in cannot exceed £15,000.
So you could invest £7,500 into each, or you could invest £5,000 in a cash ISA and £10,000 in a Stocks & Shares ISA. You can even have the whole £15,000 in a cash ISA if you like.
You can have both types of ISAs with the same provider, or you can have them with two separate companies. Most ISA providers will also let you combine cash ISAs from previous years into one big cash ISA. The same applies to Stocks & Shares ISAs.
One of the new rules added in recent years is that you can decide to convert a cash ISA into a Stocks & Shares ISA and vice versa.
How the contribution limits work
One thing that can cause a little confusion is how the contribution limits work.
The limits apply to all the money you put in during a tax year. So, for example, you can’t put your full allowance into a Stocks & Shares ISA in May, withdraw £2,000 in August and then put it back again in October. In this instance, you used up all of your ISA limit with your initial contribution in May.
There are plans to simplify this process from Autumn 2015 for cash ISAs only, meaning that money taken out of an ISA and then replaced within the same tax year does not count towards your annual subscription limit.
Help To Buy ISAs
This new type of ISA was announced in the 2015 Budget. The precise rules are yet to be finalised, but the government has said Help To Buy ISAs will be available for four years, starting in Autumn 2015. They will allow you to save up to £200 a month, plus make an initial deposit of up to £1,000.
Help To Buy ISAs will be limited to one per person, and the government will boost your savings by 25% when you use the funds to buy your first property. The bonus size will be a minimum of £400 and a maximum of £3,000, and it will be available for home purchases of up to £250,000 (or up to £450,000 in London).
Once the account has been opened, there will be no limit on how long you can save into it, or get the government bonus when you buy a property (assuming you qualify for it of course). However, it is worth noting that it appears that you won’t be able to open both a Cash ISA and a Help To Buy ISA in the same tax year.
Junior ISAs (JISAs)
Children can have a Junior ISA if they are under 18, live in the UK, and don’t already have a Child Trust Fund
Like adult ISAs, there are both cash and stocks & shares versions. If you are a parent or guardian you can open and manage the account, but the money belongs to your child.
Your child can take control of the account when they’re 16. What happens when they turn 18 puts some people off, however. At this time, the Junior ISA is automatically converted to an adult ISA, so the tax benefits can continue. But your child can also withdraw as much as they want!
The subscription limit for Junior ISAs is £4,000 for the 2014/15 tax year, and will rise to £4,080 for the 2015/16 tax year.
One final thing worth noting is that from age 16, you can also open an adult cash ISA, so for a couple of years your child effectively gets two sets of ISA allowances.
Generally speaking, you can only put money into an ISA if you’re a UK resident. So if you go abroad, you can’t put any more money into an ISA. You can keep any existing ISAs that you have though.
What happens if you die?
It used to be the case that the tax advantages of ISAs finished when you passed away, but this was changed in the 2014 Autumn Statement.
From 3 December 2014, if an ISA saver in a marriage or civil partnership dies, their spouse or civil partner will inherit their ISA tax advantages.
From 6 April 2015, surviving spouses will be able to invest as much into their own ISA as their spouse used to have, on top of their usual allowance.