A beginner’s guide to Isas and how almost half of us are missing out on tax-free money

A beginner’s guide to Isas and how almost half of us are missing out on tax-free money

Many of us have heard of Individual Savings Accounts, or Isas, but government statistics show that fewer than half of us have opened one of these tax-free accounts.

That figure falls to fewer than a third of those under 25, while even among those in their 40s and 50s only four in ten have taken advantage of the ability to shelter their money from the taxman.

Everyone has an annual allowance to use in these accounts, and some come with special abilities that can turbo-charge your savings, such as a bonus from the government to buy your first home.

So how can you get started with Isas?

Metro’s money journalist and personal finance specialist Rosie Murray-West will help you choose how to use this year’s Isa allowance before it resets in April, ensuring that you make the most of your money.

Isas exist because, as well as paying tax on the income we get from our jobs, in the UK we also pay tax on the interest we get from our bank accounts and dividends paid out by companies we invest in.

Any investments we own that increase in value are taxable too.

Most of us – unless you are an additional rate taxpayer earning above £125,140 a year – have an annual personal savings allowance. This allows us to earn a certain amount of bank interest before we pay tax.

Figures from AJ Bell, an investment platform, suggest that over two million of us will pay tax on our cash savings this year, compared with just 800,000 in 2000.

Those paying higher rate tax can make just £500 in interest (it’s £1,000 for basic rate tax payers) on their cash savings before the taxman takes 40 per cent of any remaining interest payments, and with many accounts now paying as much as five per cent interest, someone with just £11,000 in savings outside an Isa would end up with a tax bill.

‘Lots of people may have racked up a hefty tax bill already this year, because they didn’t realise they’d breached their personal savings allowance,’ says Laura Suter, director of personal finance at AJ Bell.

And this is where Isas come in.

How an Isa works

Put simply, an Isa is a product that legally allows you to avoid paying tax on your money. The accounts are often known as ‘wrappers’ because they wrap your money in a special type of tax-free status that means the taxman can’t touch it as it grows.

Everyone has a set amount of money they can put into an Isa each tax year – at the moment this is a generous £20,000 that can be put into any type of Isa. This year’s allowance ends on April 5, so if you want to take advantage of it, you should do so soon.

Many people grow large pots of tax-free money by using their Isa allowance every year, with figures showing that the top 25 Isa accounts in the country hold an average of £8.9 million.

Most Isa pots are far more modest than this, but the tax advantage is still worth having, whether you are saving for emergencies, for your child’s future or even for a first home.

Once your money is in an Isa, you can move it around between different types of account without it losing its tax-free status, so what matters most is that you open an Isa of any kind and put as much money in as possible before you lose this year’s allowance next month.

‘With the Isa clock ticking, taking advantage of as much of the
allowance as you are able to makes sense,’ says Alice Haine, personal finance expert at BestInvest, an investment group. ‘No one wants to pay tax on money they have already been taxed on, which is why Isas are a must-have financial accessory.’

How many Isas can I have?

You can open as many Isas as you want, as long as you meet the eligibility criteria for each type. However, while you can have multiple Isas of the same type, you can only pay into one of each type per tax year. You’re also free to open Isas with different providers.

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