What are the tax benefits of an ISA? (What tax do I avoid that I would pay if I invested directly?)
You do not have to declare your ISA on your tax form. In fact you do not have to do anything, as the ISA manager will deduct no tax and account for it to HMRC on your behalf.
Income Tax Benefits
Although dividends from UK equities will no longer receive a 10% tax credit, investments sheltered within an ISA are still free from income tax. You do not pay tax on interest and bonuses. There is also no income tax liability on withdrawals from your ISA.
Corporate bonds will continue to be entitled to interest gross of tax.
Interest paid on cash held temporarily in a Stocks and Shares or Insurance ISA will be taxed at a composite rate of 20%.
Capital Gains Tax (CGT) Benefits
All gains from any investments either retained or sold within an ISA are free of CGT.
Any losses from the ISA cannot be allowed to offset gains made anywhere else.
What are the other benefits of an ISA?
ISAs are versatile and can be used for a variety of savings purposes.
To accumulate funds for school and university fees, or to build up a deposit for a property purchase.
They can be used as the repayment vehicle for a mortgage or as a means of supplementing retirement savings, but investors should discuss the implications with a financial adviser or mortgage lender. And for mortgages, it is important to check whether the annual subscription limit is sufficient for the amount you will need to invest. It is wise to consider how long the ISA is going to run for.
Retirement: There are different tax breaks and rules to pensions that can offer a distinctive alternative. You can withdraw income and capital free of tax, unlike a stand-alone pension.
In many cases an ISA will cost no more than the fees levied on the investment held within it, but some managers will make charges for running the facility, and/or withdrawals and transfers. It is as well to check.
Alternatively, many providers consider ISAs such a good selling opportunity that they effectively subsidise the cost of administering these accounts.
Fund management groups often make the cost of investing in their funds through ISAs cheaper than if you invested in the same fund but without the ISA wrapper.
This is more likely to happen with the cash element and bank or building society ISAs.
How long should I invest in an ISA for, and why shouldn’t I treat this as a short term investment?
ISA products are better treated as longer-term investments, rather than funds that are there to draw on at need. While money can be withdrawn at any time, it is still considered to have counted towards the maximum annual investment limit. Therefore it cannot be replaced in the same tax year if the full subscription limit has been used.
For example, if you invest your full allowance of £7,200, but take out £2,000 the next month, you cannot pay £2,000 back into your ISA in the same tax year. Although your ISA account balance is below the £7,200 limit, you have already used your annual allowance.