Cash ISA Guide

By Mike

Anyone in the UK who’s interested in saving some money for a rainy day should definitely consider a cash ISA account – they make great financial sense, and are nowhere near as complex as their predecessor the PEP. This guide will go some way to explaining cash ISAs to you, and hopefully make you a more discerning spender”¦

How does an ISA differ from a standard savings account? The answer is actually very simple and is only one word: tax. A normal savings account will be charged 20% tax on any interest you earn, rising to 40% if you’re a higher rate tax payer; while an ISA allows you to earn interest on a predetermined amount of money cash free. The catch is that you can only deposit that amount in one year, and any money you withdraw, you will lose tax benefit on.

Currently, the predetermined amount you can deposit sits at £3,600 for under fifties, and £5,100 for those over 50 , although this will change at the start of the 2010/11 tax year to allow everyone to save £5,100. As mentioned previously, you should remember that you cannot replace any money in those accounts over the predetermined amounts – for example, if you placed £5,100 in an ISA and withdrew £100 of that money, you would not be able to replace it as you have already deposited your allowance for the year.

Due to their tax-free nature, ISA interest rates do not have to be as high as usual saver accounts in order to generate the same net amount. For example, a 3% Interest rate on a cash ISA would earn the same amount as a 3.5% standard saver, or a 5% saver if you pay the higher rate.

Do yourself a favour, however: Once you’ve got your ISA set up and transferred money into it, don’t be tempted to rest on your laurels. Providers are always releasing new deals and offers, and as most ISAs do not tie you in for a set period, it can often be worth keeping an eye on what’s being offered. Moneysupermarket says “As with standard savings deals, there are catches that you need to watch out for. Some accounts include introductory bonuses, so the interest rate drops after a while – there is no need to avoid such accounts, but you need to make a note to move your money elsewhere once the bonus period ends otherwise you could be left earning an uncompetitive rate of interest.” There is one important rule when it comes to transferring ISAs however, and it is this: Don’t just withdraw the money from one ISA and place it in another, as you will lose your tax benefit for the entire year. Instead, your new provider should allow you to fill in a form in order to transfer the funds from one ISA to the other while keeping the tax benefits.

As previously mentioned, a wise saver can get themselves a great deal if they look around. Cash ISAs can make a huge difference to your rainy day fund, so there’s no reason not to make sure you’re getting the best from them.

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