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ISA rules explained

Individual Savings Accounts (ISAs) are bigger and better than they’ve ever been thanks to generous investment allowances, greater flexibility and choice. Here’s your essential round-up of the ISA rules so you can make the most of your full allowance.

The value of investments can fall as well as rise. You may get back less than you invest. Tax rules can change and their effects on you will depend on your individual circumstances.

What you’ll learn:

  • How much you can invest in ISAs.
  • What tax benefits ISAs offer.
  • How you can pass on ISAs when you die.

The clock is ticking if you want to make the most this year’s ISA allowance, so don’t delay if you’re planning to use yours.

You can put up to £20,000 into tax-efficient ISAs in the 2019-20 tax year. If you don’t act before the end of the tax year on 5 April your allowance will be gone for good, as it can’t be carried over to the following tax year.

Find out more about our Investment ISA

How the allowance can be split

There are lots of different ways to use your ISA allowance. You can put your entire annual allowance into a cash, an investment, or an innovative finance ISA. Alternatively, you can split your allowance between these three types of ISA and the lifetime ISA. However, with a lifetime ISA you can only pay in up to £4,000 in each tax year.

You can also transfer money freely between cash, investment and innovative finance ISAs. If you’re transferring contributions made in the current tax year, then they must be transferred in full. But if contributions were made in previous tax years, you can choose what proportion of these you want to transfer. These rules do not apply to the lifetime ISA.

Find out more about lifetime ISAs

Cash ISA and Innovative Finance ISA tax advantage

A cash ISA is simply a tax-efficient savings account. This means there’s no income tax to pay on the interest you earn, unlike other savings accounts where you must pay income tax on any interest you receive over your annual tax-free Personal Savings Allowance (PSA).

If you save outside a cash ISA, basic rate taxpayers have a PSA of £1,000 and higher rate taxpayers a £500 allowance. Additional rate taxpayers don’t have a PSA.

Learn more about how the Personal Savings Allowance works

Similarly, with an innovative finance ISA there’s no income tax to pay on the interest you earn from peer-to-peer lending platforms.

Investment (stocks and shares) ISA tax advantages

An investment or stocks and shares ISA allows you to invest in a wide range of assets, including cash, funds, shares, gilts, bonds, exchange traded funds (ETFs), exchange traded commodities (ETCs) and investment trusts.

The important thing to remember about investment (stocks and shares) ISAs is that, unlike cash, investments held can fall in value as well as rise, so you may get back less than you invest. However, any income or gains you receive in your ISA will be protected from income tax, tax on dividends and capital gains tax (CGT).

If investments are held outside an ISA, you may have to pay CGT if you make a profit when you sell shares or other investments and this profit exceeds the CGT allowance, which is £12,000 in the 2019/20 tax year.

If shares are held outside an ISA, all investors have a tax-free Dividend Allowance of £2,000, so if your dividend income is less than this there’ll be no tax to pay. Any dividends received above this amount are charged at 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers and 38.1% for additional rate taxpayers.

Income received from investments held outside an ISA is only taxed if it exceeds the PSA described above.

When planning, you need to keep in mind that ISA and other tax rules may change in the future. They could be amended or abolished. Also, the benefits to you of any favourable tax treatment depend on your individual circumstances, which can also change.

ISA flexibility

If you save into an investment, cash, or innovative finance ISA, you can take money out of your account and put it back in within the same tax year without this affecting your annual ISA allowance. Not all ISA providers may offer this flexibility, so check with yours before withdrawing any money.

The ISA flexibility rules do not apply to the lifetime ISA. Remember too that investments are for the longer term - typically a minimum of five years. If you have to sell investments to take cash out of your ISA you are more likely to lose money.

Passing on ISAs when you die

When you die, you can pass on certain ISA benefits to a surviving spouse or civil partner. This is because ISA rules grant your surviving partner an extra allowance for their own ISA, known as an ‘additional permitted subscription’ (APS) allowance. The APS allowance is equivalent to the amount you hold in your ISAs when you die, and doesn’t affect your partner’s normal ISA allowance.

If you decide to leave your ISA assets to someone else, your spouse or civil partner will still be entitled to an APS allowance equivalent to the value of your ISA assets when you die.

So, for example, if you left £25,000 of ISA assets to your brother or sister, your partner would still benefit from an increased ISA allowance of £25,000 on top of their annual ISA allowance, even though you haven’t left them your ISA assets.

A time limit applies for your spouse to use their APS allowance, which is the later of three years from the date of death or 180 days after the administration of the estate is complete.

ISAs aren’t exempt from Inheritance Tax (IHT). However, if you leave them on your death to your surviving spouse or civil partner they won’t be subject to IHT because married couples and civil partners are able to pass on the entirety of their estate to their spouse IHT-free.

Remember though that tax rules can change in future and their effects on you will depend on your individual circumstances, which can also change over time.

Please bear in mind that this article is for general information purposes only. If you are unsure about how to invest your ISA allowance, or how any of the tax allowances mentioned in this article apply to you, you should seek professional independent advice.

Find out more about the APS allowance

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