This is a guest post from Louise Tillotson:
In the UK, each adult is allowed to save a maximum of £10,200 per year in an Individual Savings Account, or ISA. An ISA works in a similar fashion to a regular savings account, with a couple of exceptions.
The first is that you can only deposit a maximum of £10,200 into the account during one tax year, regardless of how much you later withdraw. For example, if you’ve already deposited £10,200 into your ISA by November, then decide to withdraw £2000 in December, you cannot then replace the £2000 until the start of the following tax year in April.
Another difference between an ISA and other types of savings account is that the interest you earn from money in an ISA is safe from the tax man. Essentially, it’s a form of tax-free income. This can make a big difference because, if you have an ISA paying a rate of 6% interest, you would need to find a regular savings account paying an unlikely rate of 7.5% in order to get the same returns.
There are two forms of ISA, the cash ISA and the stocks & shares ISA. The deposit limit of £10,200 applies to them both as a whole, meaning if you deposit £7000 in a shares ISA you can only place up to £3,200 in a cash ISA. Also, no more than £5,100 can be placed in a cash ISA, so the remaining £5,100 of your allowance must go in a shares ISA if you wish to invest further.
Although there is a limit on the amount you can deposit into an ISA in one tax year, this doesn’t include transferred funds from old ISAs. For example, the previous year’s ISA limit was £7200. If you had this in an account paying 4% interest you would end up with £7,493 at the end of 12 months. This amount could then be transferred into a higher-rate ISA and continue to accumulate interest along with the new year’s allowance. You can transfer funds from a cash ISA into a shares ISA, but not the other way around.
Transferring ISAs is easier than people think. The important thing to remember is you shouldn’t draw the money out yourself. Instead, go to your new provider and they will process a transfer for you, which includes informing your old provider of your intentions. The latter may charge you a fee for transferring, so before you do, make sure the new rate is worth it. Banks sometimes drop the interest rate on their existing accounts after the first year, so shop around and compare ISA rates from different providers to find the best AER (Annual Equivalent Rate). A savings calculator will come in useful here, as you can use it to see how much you could earn with a given interest rate.
[bio]
Louise has worked in the financial sector for many years. She currently works as a writer for Moneysupermarket, and writes financial articles for a number of other sites as well.
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