An individual savings account (ISA) is a tax-efficient method of saving in cash or investing in stocks and shares, up to an annual allowance.
You don’t pay tax on any interest you receive on a cash ISA or any gains you make on a stocks and shares ISA.
What types of ISAs are there?
There are two main types of ISA:
- Cash ISA
- Stocks and shares ISA
There are a few more specialist ISAs too - Innovative, Lifetime and Junior ISAs.
What is a cash ISA?
A cash ISA is a savings account where the interest is paid free of income tax.
What is a stocks and shares ISA?
A stocks and shares ISA is a tax-efficient way to invest for the medium to long term of at least five years, ideally longer. An investor has access to a range of investment funds that invest in different asset types such as equities (company shares), fixed-interest securities (corporate and government bonds) or commercial property.
The value of a stocks and shares ISA can fall as well as rise, isn't guaranteed and an investor may get back less than they invest.
How do ISAs work?
Every tax year, which runs from 6 April to 5 April the following year, you’re given an ISA allowance that lets you save or invest money up to a certain amount without paying tax on your returns.
The ISA allowance for this tax year is £20,000. This is the maximum amount you can pay into all ISAs and is set by HM Revenue and Customs (HMRC).
If your ISA is a flexible ISA you can replace any eligible ISA withdrawals in the same tax year without reducing your current year's allowance.
For example: Your allowance is £20,000 and you put £15,000 into a flexible ISA during the current tax year. You then make an eligible withdrawal of £2,500 from the ISA. The amount you can now put in during the same tax year is £7,500 (the remaining allowance of £5,000 plus the £2,500 you took out).
How much tax do you pay on an ISA?
One of the things that makes an ISA a popular savings option is that it’s tax-efficient. You have no personal liability to tax on any income you take or gains you make on your money invested in the ISA.
The favourable tax treatment of ISAs may be subject to change in future. The value of any tax benefits will depend on your individual circumstances.
How many ISAs can you have?
You can have multiple ISAs. You could use your whole ISA allowance in a stocks and shares ISA, or you could split it across different types of ISA and ISA providers, ensuring you don't exceed the total annual ISA allowance.
You can also bring together – or 'consolidate' – your ISAs by transferring them to a single provider.
Just remember that if you're transferring from a flexible ISA, you'll lose the ability to replace any withdrawals made before the transfer.