While it is not impossible to eventually have a £1m Cash ISA, the chances of doing so are extremely slim. Although the annual ISA allowance has increased to £20,000, the returns that are available on a Cash ISA are too low to realistically provide the required growth to turn one into a seven-figure account.
By contrast, FTSE 100 dividend stocks offer three times the income return of a Cash ISA. Added to their dividend yields is the potential for capital growth, which could lead to an improved financial future for their shareholders.
As such, while a Cash ISA may be the more popular product among the UK population, having a Stocks and Shares ISA that is invested in FTSE 100 dividend stocks could be a better means of becoming a millionaire in the long run.
While £39.2bn was invested in Cash ISAs in the 2018 financial year, the returns being generated are near to historic lows. At best, this type of ISA offers an interest rate of around 1.5%. Although this is tax-free, the benefits of having a Cash ISA have been diluted in recent years since savers can now earn up to £1,000 in interest per year without having to pay tax.
Even though interest income within ISAs is tax-free, an interest rate of 1.5% means that someone would need to invest the full annual allowance of £20,000 over a period of 38 years in order to have a seven-figure account. Even if that is achievable, the impact of inflation is likely to mean that £1m in 38 years’ time is worth much less than it is today in terms of its spending power.
Certainly, interest rates are likely to rise over the long run. The Bank of England recently stated that it may in fact rise at a faster pace than some investors have been anticipating. However, the catalyst for higher interest rates is often increased inflation, which means that there is likely to be a negative real return from a Cash ISA in the long run.
FTSE 100 dividend stocks
Investing in FTSE 100 dividend stocks could allow an investor to generate an income return that is around three times that of a Cash ISA. The FTSE 100 currently yields around 4.3%, although a number of its members have higher yields. Therefore, income-seeking investors may be able to build a portfolio that has an income return in excess of 5%.
As well as its income prospects, the FTSE 100 also offers capital growth potential. Since its inception in 1984, the index has posted annualised capital growth of over 5%. When its dividend yield is added to this figure, it means that the index could realistically offer 9% annualised total returns over the long run.
For an investor looking to generate a £1m ISA, it could be possible to achieve this goal within 20 years by investing £20,000 in the FTSE 100 each year. As such, it seems to offer significantly higher return potential, as well as less risk of losing spending power over the long run, when compared to a Cash ISA. This could mean that while there is a threat of capital losses, its risk/reward ratio is far more appealing than that of a Cash ISA.
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Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.