Life

Can I have an ISA and a savings account?

There's absolutely no reason why you can't have both a savings account and an ISA at the same time, so you need to work out which is more beneficial to you. This will depend on your personal circumstances.

You can have both an ISA and a savings account in the same tax year and get tax benefits from both. See the pros and cons of choosing between them.

Which should I choose savings, ISA or both?

If you want both a savings account and an ISA you can have both. Before you open either or both, it's worth considering the pros and cons of each to make sure you are making the most of your savings opportunities.

The history of ISAs v Savings

In the past you had to pay tax on any savings income, so for any £10 in savings income you earned you had to pay £2 in tax. The bank or building society took the tax at source before they paid the remaining interest over to you already taxed.

To encourage people to save more, the Government offered a tax incentive. ISAs offered people the chance to save or invest a maximum amount of money every year without them having to pay any personal tax on what is earned from the interest.

When ISAs first came along, the question for typical savers and investors was how can I minimise the tax I pay on my savings and investments? ISAs became the first choice for savers and investors as all your personal gains were-tax free – but there was a maximum amount that you could save each tax year.

Most people who could afford to and were aware of the tax advantages, used their ISA allowance first and had typical savings or investments as well. Here, tax on any interest was taken at source by the bank or building society before you were paid it.

Then, the ISA allowance grew, and for some people was large enough to encompass all their savings, so they didn't need to look elsewhere.

However, things changed thanks to the 2015 Budget that introduced a tax-free allowance of £1,000 in savings income from 6 April 2016, for basic rate taxpayers. Higher rate 40% taxpayers can get up to £500 in savings income tax free. Top 45% rate taxpayers don't get the allowance, so all interest paid on a regular savings account is taxable.

For basic rate taxpayers, this means at current top rates of interest at around 1.3% they would need around £75,000 to generate £1,000 in interest. If you earn interest over the limit you will pay tax at your income rate, but only on the amount of savings interest over the limit.

Are all savings covered by the Personal Savings Allowance?

Savings covered by your tax-free allowance include cash in;

  • bank and building society accounts –including current accounts
  • savings and credit union accounts
  • unit trusts, investment trusts and open-ended investment companies
  • peer-to-peer lending
  • trust funds

Your allowance also applies to interest from:

  • Government or company bonds
  • life annuity payments
  • some life insurance contracts

If you have savings that are already in tax-free accounts like ISAs and some National Savings and Investments accounts, these don’t count towards your allowance.

But share dividends are not covered by the allowance and will need to be declared on your tax form separately.

To reflect the change, banks and building societies now pay all interest gross – that means there will no tax be taken off.[1]

ISAs v savings now

For many investors whose interest come under the Personal Savings Allowance, the question has now changed to "Which of the two ways of minimising my tax bill on my savings and investments works better for me?" You'll need to weigh up the advantages and disadvantages for each type

ISAs – the pros and cons

The pros

  • your savings will be sheltered from tax over the long term – especially if you have built up ISA savings over the years
  • the only limit you need worry about is the annual limit that you pay in, you don't have to calculate whether you'll breach the allowance
  • some ISAs will pay a Government bonus to savers on top of any tax savings – eg the Lifetime ISAs for the under 40s or the Help to Buy ISA for first-time buyers, if you qualify for them
  • you can pass on or inherit the tax benefits of an ISA after the death of your spouse or civil partner
  • changing tax brackets makes no difference to the amount you can save tax free

The cons

  • there's a £20,000 top limit in the 2018-19 tax year
  • if you close your account you will lose the tax-free status on that money, but you can transfer between different ISA providers
  • they can be less flexible than savings accounts
  • you can face penalties if you move or close your account before a term is up

Savings – the pros and cons

The pros

some bank current account in-credit interest rates and regular savings accounts pay much higher rates of interest than ISAs, so it can be worth maximising these first with your spare cash and savings – but these usually only apply to small sums of money

  • some fixed term savings accounts are paying higher rates than ISAs are currently offering
  • it can be easier to take money out of the account if you need it and then replace it

The cons

  • some higher-paying interest bank accounts and savings accounts have strict criteria that you have to meet, including monthly fees and minimum amounts
  • it can be fiddly to work out how close to your allowance you are
  • you have to declare any savings interest above your allowance on your tax form which means you will have to fill in a self-assessment form
  • you can face penalties if you move or close your account before a term is up
  • a pay raise could tip you over from basic rate tax to higher rate and instantly halve your allowance

 

[1] https://www.gov.uk/apply-tax-free-interest-on-savings 


Comments
Send