ISA for dummies.

bearinthewoods

Despite spending weeks trying to understand how ISAs work, I'm still at a loss.

I've recently started to save money for my future. Not entirely sure what for yet. I have a cash ISA which I put money into after I get paid. I don't understand how a cash ISA is any different from any other savings account.

I've never had a lot of money in my bank account so I've never had any savings to be taxed in the first place. At least I don't think so. I didn't even know you could get taxed on your savings. Preposterous!

If someone could explain this all as if they were talking to a 4 year old, that would be most appreciated.

darkidoe

Once a upon a time in a land not too far away, there lived a man called the Tax Man. The Tax Man works for the Big G and is interested in taking a lick of everyone's pie (ie. in taking a slice off all new earnings of people living on the land) New earnings may come from working (Salary), interest from Savings, interest from investments, earnings from businesses, earnings from selling 2nd homes, etc.

If you have been working hard and earning and have some savings in the Bank earning some interest, the Tax Man by default would take 20% of this interest (ie. If you are earning 5p interest (Gross interest), the Tax Man would take 1p, leaving you 4p interest (Net Interest)). If you are not working or earn less than a certain amount (£15 600 atm), the Tax Man will becomes less interested in you and you will be exempted from the tax from savings interest. If you have been raking in loads (Higher/Additional Tax payer), the Tax Man will ask for a bigger share of your pie [Savings interest] (40%).

Now there's this magical wrapper that is the ISA which will hide your savings from the Tax Man, and any interest you earn or don't earn from any ISA wrapped up savings/investments, the Tax Man can't touch forever as long as it's hidden or unless the Big G brings in the scissor and cut up this magical wrapper. Everyone gets an allowance to hide £15 600 this year under the ISA wrapper.

*Panting*

Now the market for Cash ISAs at the moment is not great at the moment. Best deal is 1.4% for easy access cash ISA Comparing to standard current accounts which may pay up to 5% 4% 3% (Gross interest) and also with the new Personal Saving Allowance, where most people can earn £1000 tax free interest on savings, cash ISA look like a poor deal at present.

Now you are a 4 year old and you will by luck grow up to your 50s, 60s when you will hopefully have stashed up savings that will attract the Tax Man's attention. So the ISA wrapper is still an option you should consider for future proofing your wealth from the Tax Man's itchy fingers.

darkidoe

It actually sounds pretty complicated to be fair. :eek:Such is the reality of bureaucracy.

eskbanker

bearinthewoods wrote: »

I didn't even know you could get taxed on your savings. Preposterous!

You don't get taxed on savings but might be taxed on the resulting income, i.e. the interest. However, since a new personal savings allowance comes in the week after next, many/most savers won't be paying tax on interest income.

bearinthewoods wrote: »

I don't understand how a cash ISA is any different from any other savings account.

The interest on money in a cash ISA isn't taxable whereas it is taxable in a normal savings account. Once the above allowance kicks in in the new tax year, this difference will be insignificant for most, although if you haven't owned a property then a Help To Buy ISA is likely to be worth funding. Apart from that, interest rates on both normal savings accounts and cash ISAs closely resemble what bears are known for leaving in the woods....

Read up on the quick link articles above, in particular How to Start Saving, Top Cash ISAs and Help to Buy ISAs.

bearinthewoods

A sincere thank you for the replies. Very good.

So... This is literally just about not being taxed on the interest alone. Which isn't very much. Let's see if I understand this now...

If I save 10k and interest is 1% ,that's £100 on top with an ISA. Normally I would only take £80 if the taxman takes 20% of that interest. Is that about right - (forgoing the cumulative amounts) ?

I just read about cash to buy ISA which seems like a much better deal.

ColdIron

bearinthewoods wrote: »

Is that about right

That's exactly right

Flobberchops

bearinthewoods wrote: »

If I save 10k and interest is 1% ,that's £100 on top with an ISA. Normally I would only take £80 if the taxman takes 20% of that interest. Is that about right - (forgoing the cumulative amounts) ?

Yes, exactly.

In a normal savings account, at 1% you'd earn £100 but take home only £80 of it. In an ISA you'd keep all £100.

Now, from the 6th April you'd keep £100 in both cases. As long as you're in the basic tax band you'll get the first £1000 of interest tax-free across all your savings... except ISAs. ISA interest doesn't count towards your annual limit meaning cash ISAs are still an option for people who are fortunate enough to be getting more than £1000 interest a year (as it extends the amount of cash they can hold before being taxed). For the majority of us mere mortals though, they're fairly unattractive.

Help to But ISAs are a much better deal if you're eligible, and particularly the top-rate ones offering 4%.

LXdaddy

bearinthewoods wrote: »

If I save 10k and interest is 1% ,that's £100 on top with an ISA. Normally I would only take £80 if the taxman takes 20% of that interest. Is that about right - (forgoing the cumulative amounts) ?

But if you put the 10K into some of the interest paying current accounts and regular savers you can earn 3% or 4% or 5% or 6% interest. At 3% you would have £300 interest and if that's your only interest it would be inside your Personal Savings Allowance so you would get to keep it all.


3% taxable at 20% or 40% is better than 1% tax free.
3% taxable at 0% is much better than 1% tax free.

bigfreddiel

When I started with isas many years ago and I saved myself £20 tax all my friends laughed! They couldn't be bothered!

They're not laughing now, income from isas is now heading for about £8,000, and all tax free, £1,600 saved for me to spend or invest.

That's the beauty of isas.

Fj

Eco_Miser

bearinthewoods wrote: »

So... This is literally just about not being taxed on the interest alone.

That's it for a normal cash ISA.
for a S&S ISA, you also avoid Capital Gains Tax, and some record-keeping.

darkidoe

:snow_grin

bigfreddiel wrote: »

When I started with isas many years ago and I saved myself £20 tax all my friends laughed! They couldn't be bothered!

They're not laughing now, income from isas is now heading for about £8,000, and all tax free, £1,600 saved for me to spend or invest.

That's the beauty of isas.

Fj

Compound Interest and Tax Free ISAs. Picture the snowball rolling down the mountain. :snow_grinSweeeeet!