In the fourth part of our series ‘52 Ways to Save Tax’ we look at one of the simplest ways that you can reduce the tax you pay on your savings and investments. Keep reading to find out how opening an ISA can reduce your tax bill and save you hundreds of pounds a year.
52 Ways to Save Tax – Part 4 : Open an ISA
The Individual Savings Account – better known as the ISA – is the UK’s most popular tax shelter, used by around 20 million savers and investors.
In the 2013/14 tax year, any British saver aged 16 and over was able to deposit up to £5,760 into a cash ISA and earn tax-free interest on those savings. Any interest that you make on your ISA savings is cash free, unlike traditional bank and building society accounts.
Investors are also able to use a separate ISA allowance for stocks and shares investments. The limit for investing in an ISA in 2013/14 was £11,520, although this was reduced by the amount you had already invested into a cash ISA.
For example, if you had maximised your cash ISA deposit in 2013/14 then you would only be able to invest £5,760 (£11,520 minus £5,760) into your stocks and shares ISA.
Changes to ISA limits in 2014/15
Since July 1st 2014 the annual limit for an ISA has risen significantly. Whereas previously there were limits on the maximum amount you could pay into your separate cash and stocks and shares ISAs there is now one general ISA limit.
From 1 July 2014 you can now pay up to £15,000 into an ISA. And, you are now allowed to invest the full amount as cash or stocks and shares, or a mix of both. In addition, you are now able to switch stocks and shares ISAs to cash ISAs.
Why ISAs are tax efficient
Interest on savings you hold in a cash ISA is not taxed, whether it is an instant access or term deposit. And, dividends are not subject to additional tax, interest on bonds is not taxed, and capital gains are not taxed.
An additional benefit of saving in an ISA is that there is no need to report interest or other income, capital gains or trades to HMRC. This is because this is not taxable income.
Here’s an example of how much you can save by holding your savings in an ISA. You hold £5,000 in an ISA with an interest rate of 3%. Over the course of a year your interest would be £150 with no tax to pay.
If you are a basic rate taxpayer and you had held this money in a traditional building society account for the same period you would have paid tax of 20% on your interest – equivalent to £30. Your interest payment would have been £120.