Chancellor George Osborne’s recent decision to hike the annual tax-free ISA allowance to £15,000 from 1 July was welcomed as great news for savers and investors.
And frankly, it is great news.
It means you can invest even more of your money without having to pay income tax or capital gains tax to HM Revenue & Customs.
The allowance was initially set to be £11,880 from 6 April. From July, it will rise to a round and juicy £15,000. That’s 25% more.
£15,000 Is A Lot Of Money
The Chancellor also made another key change to ISAs. Currently, you can only put half your allowance into a cash ISA, and the other half into stocks and shares.
Or you could put your full allowance into stocks and shares.
From 1 July, however, you can put your new enlarged £15,000 allowance entirely into cash, if you wish. As before, you can put your full allowance into stocks and shares.
This move was also welcomed as great news, allowing savers to shelter more of their money from the taxman.
And it is great news, but only up to a point.
My worry is that a cash ISA really isn’t a good place to leave large chunks of money. In fact, it’s a crazy place to leave it.
1.64% Isn’t Very Much
Cash ISAs offer two great advantages. First, if you are a taxpayer, it means you don’t have to pay any income tax on the interest you earn.
Second, they typically give you a higher return than the average savings account. Currently, the average standard savings account pays 0.62%, while the average cash ISA pays 1.64%, according to Moneyfacts.
The problem is that 1.64% is still a lousy return.
It is less than the rate of inflation, currently 1.7% as measured by the consumer prices index.
This means the value of your money is actually falling in real terms.
You Could Earn £18,363 More
Leaving too much money in cash can do serious long-term damage to your wealth. That’s because over the longer run, investing in the stock market will make your money work so much harder.
If you had saved £15,000 into the average UK savings account 10 years ago, your money would be worth £16,583 today, according to figures from Fidelity.
In other words, you will have made £1,658.
If you had invested the same amount into the FTSE All-Share index instead, your money would have more than doubled to a mighty £35,219.
Or to put it another way, a whopping £18,636 more.
Make A Dash From Cash
Cash ISAs are great, but only for relatively small amounts of money. You don’t want to leave tens of thousands of pounds in cash (unless you’re saving for a short-term target, such as a property deposit).
Yes, stock markets can be risky in the short term, but in the longer run they thrash the returns on cash, as the figures above show.
Just make sure you only invest money you don’t expect to need for the next five or 10 years, to give it time to grow, and rebound from any short-term market shock.
Cash ISAs are a solid, low-risk home for a small proportion of your savings. But £15,000 a year? That’s plain nuts.
