ISA Countdown: Part one - Top tips and best ISA options
by Ben Salisbury
ISA countdown: Your complete four-part guide to this year’s ISA season
Part one: Top tips and best ISA options
Savings rates have endured a miserable year. This year is the first one in the last ten where savers have seen not made a return that outpaces inflation.
However, investing in an ISA is still the best way to protect your money from the taxman and to get you as close to an inflation-busting return as possible.
By saving money you will also be able to call upon a bigger amount of capital to take advantage of better rates when they return, as they inevitably will.
It is still possible to outpace inflation with an investment ISA but with rates so low, (though likely to increase in the next few years), it is important to consider how long you want your funds tied up and linked to a rate that could look very low later this year.
Myfinances.co.uk will take you through this years ISA season with a four-part guide. Firstly, in this article we will outline the current ISA climate and go through the various options for investing in an ISA and provide some top tips.
Over the next few weeks we will take a close look at cash and instant-access ISAs, fixed-term ISA’s and investment ISAs, analysing the benefits and drawbacks of each and identifying the best buys in the run-up to the ISA deadline.
The basics
This year’s deadline for investing in an ISA is Tuesday April 5th and each of us is allowed to invest a total of £5,100 into a cash ISA each tax year. You can invest a further £5,100 into an investment ISA (sometimes known as a stocks and shares ISA) or just invest your full allowance of £10,200 into an investment ISA.
The allowance will increase from the start of the next tax year (April 6th 2011) to £5,340 for a cash ISA or £10,680 for an investment ISA.
The compensation limits that apply to ISAs have recently increased from £50,000 to £85,000.
Read more: Isa compensation limit rises to £85,000
Check the rate of your current ISA
If you have opened an ISA in the last two years the first thing to do is check the rate you are currently on and consider transferring if the rate is low. Many ISAs offer excellent introductory rates that usually last for a year before reverting to a much lower rate.
Current climate
We can start with some good news. According to Moneysupermarket.com the rates being offered on the top five instant-access ISA accounts as at the start of February were 11 per cent higher than in the 2009-10 tax year, at 2.83 per cent, up from 2.55 per cent.
Kevin Mountford of Moneysupermarket.com said: "The rates being offered on new cash ISAs are comparable with standard rates available on regular savings accounts but consumers get the additional benefit of not having to pay income tax on the interest earned.”
When to get the best deals
It is important to remember that most ISA providers offer the best deals in the last week or two before the deadline. Of course, if you do invest earlier in the tax year you will get the benefit of receiving interest for a longer period.
It is highly likely that many of the big players such as Santander, Barclays and Halifax will offer some competitive deals in the next three weeks. However, don’t discount the offering from smaller building societies either as average rates from these institutions can be extremely competitive.
Kevin Mountford continues: “The traditional ISA season has started earlier than previous years and in general, savings providers are being more aggressive than normal. It is interesting to see a number of building societies entering the ISA market compared to last year, where they played a much more muted role.”
The future of interest rates
ISA savers need to bear in mind the future of rates and how long they are prepared to tie their money away. It makes sense not to tie in your money for long as it is likely that savings rates will improve during the next one to three years.
Transferring your ISA
An important consideration if you already have an ISA is to choose a new one that allows transfers in. Also be vigilant about how long your old provider takes to transfer your funds as you will be losing interest each day that the process takes.
Bear in mind that some providers who you may open a new ISA with pay interest from the day that you make your application. New rules apply in 2011 that limit the transfer time to 15 working days which is an improvement on the previous industry average of 26 days, but ISA providers have rejected introducing technology that would enable transfers to be completed in 48 hours.
Use the Myfinances.co.uk's comparison site and ISA centre to find the best deals on an ISA before the deadline.
What type of ISA to choose?
The choice you make should also take into account how long you can afford to be apart from you funds and your attitude towards risk.
If you think you will need to get at your money to pay bills or because you are using your ISA to save up for something then an instant-access or cash ISA would be the sensible choice.
If you think you can put the money away for a longer period without needing access to it, then you could benefit from a higher rate if you choose a fixed-rate bond that tie in your funds for a set period.
However, bear in mind that rates are likely to rise so you may get a better deal on this type of investment later in the year or this time next year so look at flexible products that allow you to benefit from interest rate movements.
Many investors have seen better returns from an investment ISA in recent years. During 2009-10, as markets rebounded after the credit crunch, stocks and shares ISAs seemed a better bet. This was at a time of low interest rates, and, subsequently, low rates for instant access and cash ISAs, meaning cash ISAs were less attractive. However, it is important to remember that you can make losses, especially over the short term, with an investment ISA.
Here is a brief outline of the basics for each of the main types of ISA
Instant-access ISAs
Instant-access ISAs allow you to take out your money without any penalties. Typically they pay a lower rate of interest. The best rates are currently around the three per cent mark but that includes an introductory bonus.
Cash ISAs
Cash ISAs are similar to instant or easy-access ISAs but typically pay slightly better rates of interest. Many of the best are only available online. Check if they accept transfers in and remember to switch when the bonus rate ends. Best rates now are slightly upwards of three per cent.
Fixed-rate ISAs
Fixed-rate ISAs or fixed-rate bonds are savings vehicles that take an investment for a set period and pay an agreed rate of interest over that period. There are normally penalties or strict stipulations that apply on accessing your money. Most fixed-rate ISAs are for a one, two, three or five-year period. The rates vary but the longer period over which you deposit your money, the better rate you will receive.
Investment ISAs
Investment ISAs or stocks and shares ISAs invest either directly or through vehicles that invest in government investments and/or the stock markets. Most people invest in stocks and shares through investment trusts, unit trusts or OEICs (open-ended investment companies). You can make higher returns with an investment ISA but you can also lose money.
Self-select ISAs
Self-select ISAs offer the investor the chance to pick their own companies, commodities or unit trusts to invest in. To have a reasonable chance of being successful this requires a degree of knowledge and experience.
Five reasons to take out an ISA
• Your only option to beat inflation
• Start saving to receive a regular tax-free income
• Hide your savings legally from the taxman
• An alternative or accompaniment to a pension
• Split your investments and diversify
Next: Check out Myfinances.co.uk next week for part two: A guide to instant-access and cash ISAs
Use the Myfinances.co.uk's comparison site and ISA centre to find the best deals on an ISA before the deadline.
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