If you’re not familiar with them, Individual Savings Accounts, or ISAs, can seem complicated.
It doesn’t help that they come in many different forms. But all you need to remember is that ISAs are a form of financial wrapper providing a tax-free way to save and invest.
It’s a good thing to do. The less tax you are legally required to pay on your savings and investments, the more money you can keep.
Annual ISA allowance
Every adult in the UK has an ISA allowance, amounting to £20,000 for the current 2021/22 tax year.
Simply put, this is the maximum amount you are allowed to save in your ISA kitty for the tax year that started April 6, 2021.
You can split your allowance between different types of ISA up to the limit of £20,000. But what you can’t do is carry over unused ISA allowance amounts to another year. It’s basically a ‘use it or lose it’ within the relevant 12 month period.
While many savers prefer the security of keeping their money in a so-called “cash ISA” (effectively a tax-free savings account), others are happy to allocate some or all of their annual allowance to invest in the stock market through a product known as stocks and ISA shares.
Here’s how ISA stocks and shares work…
Before going any further, it is essential to clarify that investing in the stock market is not for everyone. Stock market investments do not come with any guarantees and it is possible to lose money by choosing this route.
You could get back less than you invested and you could lose it all.
That said, over the long term – and by that we mean at least five years, but preferably longer – it is possible for stock market investments to produce returns far greater than those available from, say, ultra-safe deposit accounts. and low interest rate. – especially if inflation is taken into account.
With inflation far exceeding the Bank of England‘s base rate currently, looking to the stock market is one of the few ways investors are potentially able to produce a real return on their money over time. time.
What is a Stock and Equity ISA?
A stock and equity ISA is a tax-advantaged account that acts as a wrapper for your investments. It allows you to expose yourself to the stock market in different ways.
These include investing directly in shares of companies (such as those found on the FTSE 100, the UK’s main stock market index featuring its largest companies) and a range of managed funds.
These funds, including mutual funds and investment trusts, are pooled arrangements managed by professional managers. They offer investors exposure to a variety of assets such as stocks, government and corporate bonds, and real estate.
It is also possible to use a stock and equity ISA to invest in more eclectic assets such as fine wines and land. But the majority of investors stick to stocks and bonds.
You can only open one stock and share ISA each year. If you end up with more than one on the go at a time, you can only pay one of them in a tax year.
What are the benefits of a stock and equity ISA?
A stock and equity ISA protects your investment returns from three key tax areas: income tax, dividend tax, and capital gains tax.
Income tax
Income tax does not only apply to your take home pay. It is a tax that is also levied on interest earned by certain types of investments, including bonds and certain funds.
However, any interest earned from interest-bearing investments like these held in a stock and equity ISA is not subject to income tax.
Dividend tax
Stock dividends are income payments made to investors based on profits earned by a company.
Not all companies pay dividends but when they do, as an investor you receive a £2,000 allowance for the 2021/22 tax year before paying tax on them.
Once this limit is exceeded, the rate is then applied at 7.5% for basic rate taxpayers, and 32.5% and 38.1% for higher and additional rate taxpayers, respectively.
However, when investments are held in stocks and shares ISAs, you completely avoid having to pay taxes on dividends.
Capital gains tax
You are liable to pay capital gains tax (CGT) when you realize a gain by selling assets such as shares, a second property (it does not apply to your main residence) and other items such as jewelry.
Everyone has an annual CGT allowance which, for the 2021/22 tax year ending in April, is £12,300. If you hold investments such as stocks outside of an ISA, you will pay tax on any gains you make above this threshold (at a rate of 10% for basic rate taxpayers and 20% for higher and additional rate taxpayers).
However, gains made by investments held in a stock and equity ISA are not subject to CGT.
Finally, another advantage of stock and share ISAs is that if you have to file a tax return, there is no need to report profits there. In fact, you don’t need to mention the fact that you have ISAs.
How Do I Open a Stock and Equity ISA?
ISA stocks and shares are available directly from financial services companies, including banks, financial advisers, stockbrokers and investment management companies.
Another way to open a stock and equity ISA is through an online investment platform or fund supermarket.
In recent years, this option has become the dominant way for so-called retail investors – in other words, people like you and me – to do so.
How to choose a platform?
The investment platform space is competitive with dozens of providers offering access to ISA stocks and shares. Large companies include Hargreaves Lansdown, Interactive Investor, Vanguard, Halifax and AJ Bell.
Providers offer a range of services from basic options to more expensive premium choices.
Finding the best stock and stock ISA provider for you depends on a number of factors, including your familiarity with investing, how you want to invest, and the type of service you are looking for.
For example, experienced investors may be happy with a basic service that simply allows them to buy and sell investments and view their account online.
But, if you’re new to investing, you may be looking for as much information and tools as possible to help you with your investment decisions.
Aimed at inexperienced investors, several providers have created ready-to-use portfolios offering a range of relevant investments based on your particular attitude towards risk.
How much does it cost?
Whether you’re a veteran investor or a newbie, it always costs money to invest, and it’s worth remembering that charges will be applied to your stocks and ISA shares, regardless of how well your investments perform.
Fees are charged for a variety of transactions and will depend on the composition of your particular portfolio – in other words, the range of stocks and funds you hold – as well as your trading style (frequent, occasional, etc).
Platform fees
Almost all providers will charge investors some sort of platform or service fee. This may be a flat rate applied monthly. Or it can be an amount calculated annually (and capped at a maximum figure) based on a percentage of the money you hold on the service.
Fixed fees are preferable if you plan to invest a lot of money as they represent better value compared to the same fees applied to a smaller sum held in your ISA. Percentage-based fees are initially attractive, but become more and more expensive the larger the investment.
Management fees and trading fees
In addition to platform costs, funds held in your ISA stocks and shares will also incur annual management fees from the provider offering the fund itself – an investment management company, for example. This generally varies between 0.1% and 1% of the relevant stake.
Platforms are also likely to apply trading fees each time you buy or sell a stock or fund held in your ISA. Most platforms will either charge a flat fee per trade (which itself may vary depending on how frequently you trade) or it will be calculated as a percentage of the investment you make.
If you plan to do a lot of stock trading, look for platforms that allow a certain number of free trades per month. Some trading apps — basically a version of a platform you can run from your smartphone or tablet — offer the ability to trade stocks commission-free.
The latter make their money in other ways, such as charging currency conversion fees for transactions made on companies based on foreign exchanges.
Transfer fees are another consideration. Most providers are happy to transfer investments into your account for free, but will charge customers when they decide to transfer their holdings to a competing provider.
If you prefer to execute your trades over the phone rather than online, check to see if there are any fees for this before committing to a particular provider.
Also keep in mind that inactivity fees may apply when investors leave their investment account inactive for long periods of time at a time. If this sounds like your potential trading style, check before signing up.
Other Considerations
Keeping a cap on fees is an important consideration for all investors. But there are also other aspects to look out for, including customer service (ideally over the phone and available 24/7), ease of accessing your account, and consumer protection.
Regarding the latter, check that your stock and equity ISA provider is covered by the Financial Services Compensation Scheme (FSCS).
If your supplier goes bankrupt, that means up to £85,000 of your investments will be protected. This does not mean that all losses resulting from poor investment decisions relating to your ISA are covered, only those resulting from the bankruptcy of the company overseeing your investments.
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