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September 27th 2019

Tax-efficient savings

ISAs (Cash or Stocks & Shares)

You can invest up to £20,000 into an ISA account in the current tax year (this limit may be reduced if you have other types of ISAs – see further below). You may have both a cash ISA and a stocks & shares ISA, but the overall limit of £20,000 applies.

The limit has been steadily increasing every year – if you have had an ISA for a number of years, you could now have a substantial sum invested, and any interest earned or gains made are tax-free.

Junior ISAs

If you are a parent or legal guardian of a child under 18 living in the UK, you can open a Junior ISA on their behalf – friends and family can then invest up to a total annual limit of £4,368 in the current tax year. If the child already has a Child Trust Fund, they can’t hold a Junior ISA at the same time, but it can be converted into a Junior ISA.

Junior ISAs can either be a Cash ISA, or a Stocks & Shares ISA, or they may have both types (but are subject to the £4,368 across both types). There’s no income tax to pay on the interest, and no Capital Gains Tax to pay on any investment gains.

Help to Buy ISAs

This type of ISA, designed to help first-time buyers save up a deposit for their home, is coming to an end – closing to new customers on 30 November 2019. Interest earned on this type of ISA is tax-free.

To open an account, you need to be a first-time buyer, aged 16 or over. You can use the funds within the ISA to purchase your first home, provided it is worth up to £250,000 (or up to £450,000 in London). It can’t be used to purchase an overseas property, or a property that you are going to rent out.

You can start your ISA with an initial deposit of £1,000, and you can then invest up to £200 per month. The government will contribute 25% of the ISA balance, up to a maximum of £3,000, towards your first home.

The bonus, which is tax-free, is claimed by instructing your solicitor once your offer to purchase a home has been accepted (and before completion), and it will be added to your overall deposit. If the solicitor charges a fee in connection with claiming the bonus, this is restricted to £50 plus VAT.

Joint first-time buyers can purchase a property together both using a Help to Buy ISA (benefitting from a maximum combined bonus of £6,000), or one first-time buyer can use their ISA and bonus to purchase a house which they will own jointly with someone who is not a first-time buyer, or doesn’t have an ISA.

Those with a Help to Buy ISA by the November 2019 deadline, will be able to continue to invest into the account until 30 November 2029, but must claim their government bonus by 1 December 2030. If you decide not to use the funds in your Help to Buy ISA to purchase a property, you can withdraw some or all of the funds at any time, without an income tax charge, but no government bonus will be due to you on the amounts withdrawn.

Lifetime ISA (LISAs)

A relatively new investment product, into which you can put up to £4,000 per tax year, and the government will add a 25% bonus to what you pay in, on a monthly basis. If you invest up to the maximum per year, you will receive an extra £1,000 from the government. Any interest earned on a LISA is tax-free.

To open a LISA, you must be a UK resident between the ages of 18 and 40, although, once open, you can continue paying in until you are 50 years of age.

The downside of the LISA is that you can only withdraw the money, without penalty, if: you reach the age of 60; you are diagnosed with a terminal illness; or you are buying your first home and your account has been open for at least 12 months. If you withdraw the money for any other reason, a withdrawal charge of 25% will be applied to the account, meaning that you could get back less than you invested.

For example, if you put £4,000 into a LISA, and receive £1,000 of government bonus, but then decide to close the account for a reason which results in the withdrawal charge, the whole £5,000 will be subject to a 25% withdrawal charge (£1,250), leaving you with only £3,750 to get back, losing you £250 on your original investment.

You can open a LISA at the same time as you hold a cash ISA, stocks & shares ISA, or innovative finance ISA, but the amount you pay in is linked to your overall annual ISA allowance, so if you put in the maximum of £4,000 into a LISA in the current tax year, you will only be able to invest up to £16,000 in the other ISAs you hold.

Innovative Finance ISA (IFISA)

An IFISA works by lending your money to borrowers, in return for a set amount of interest. You can pay in up to your ISA allowance (£20,000 in the current tax year).

Interest earned is tax-free, but there is a risk that borrowers could default on their repayments, resulting in you losing the money you have invested, as IFISAs are not protected under the Financial Services Compensation Scheme.

Premium Bonds

These are issued by National Savings & Investments (NS&I), which is owned by the government; instead of earning regular interest for your savings, you are entered into a monthly prize draw, where you can win between £25 and £1 million.

You need to invest at least £25 on opening, and every £1 invested gives you a unique bond number, with each bond eligible for a prize in the monthly draw. The maximum holding is £50,000.

You can buy bonds for yourself (minimum purchase age of 16), or on behalf any child, including family members and friends.

There are no guaranteed returns with Premium Bonds, but if you are lucky enough to win a prize, it is tax-free, regardless of the amount won.

Pensions

The government gives you tax-relief on your pensions, and growth within your pension fund is tax-free. When you retire, you can usually take up to 25% of your pension fund as a tax-free lump sum, under current rules. If you would like to know more about tax relief on pensions, I covered the topic in an earlier blog.

Child Pensions

It is also possible for a child under the age of 18 to open a pension fund, into which you can contribute up to £2,880 each tax year – the government will then add up to £720 to the fund as well, on the same basic rate tax relief principles as an adult.

Interest from banks and building society accounts (not ISAs)

Finally, interest earned from a bank or building society account, which is not an ISA, is taxable income, however, you are entitled to a Personal Savings Allowance, which means that you don’t pay tax on the first £1,000 of interest (or the first £500 if you are a higher rate taxpayer; note that additional rate taxpayers are not entitled to any Personal Savings Allowance).

If your bank interest is in excess of your Personal Savings Allowance, you may still not have to pay income tax if your income is within your Personal Allowance, depending on your other income.

From 6 April 2016, banks and building societies are no longer required to deduct income tax when they make the interest payments to you – if any income tax is due on the interest, this will be paid via a Self Assessment Tax Return, or via a Tax Calculation obtained from HMRC.

Find out more about our personal tax advice services here.

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