Isas can spell big returns – if you pick the right type

0
9
Isas offer some crazy rates – high or low – so how do you find the best for you?

The worst Isas pay 0.2% interest while the best pay 26%. We review the best on offer for you

If you are lucky enough to have accumulated decent savings, it’s the time of year to decide where best to deposit them and earn the most interest. Every year individuals can put £20,000 into an individual savings account but the deadline for doing so is 5 April – just 27 days away. And while some cash Isa rates at the big banks verge on the laughably bad (we’re looking at you, NatWest and Santander) you really can find 26% a year, guaranteed and protected, from a building society. Read on to find out what’s best for your money.

Lifetime Isa
26.35% interest
This is easily the best value government-approved Isa to buy, but also one that is littered with catches. The idea is that you save up to £4,000 a year, and the government then tops it up with a £1,000 bonus. It only pays about 1% interest, but the government bonus is worth 25%, so that makes a tasty 26% over the year. But as consumer group Which? says, there is “catch, after catch, after catch”.

First, you have to be between 18 and 40 years old to open a Lifetime Isa, although you can carry on making contributions and receiving the government bonus until age 50. Second, you have to use all the money you’ve saved to buy your first home, or wait until the age of 60 to unlock it. Third, there are hefty penalties if you try to withdraw the money early. And finally, there are not that many different providers to choose from.

Pros: You have the potential to earn a total of £32,000 in bonuses if you pay in the maximum £128,000 over 32 years from age 18.

Cons: If you take out any money before you reach 60 and do not use it to buy a first home, you pay a 25% penalty. This can mean you receive less than you pay in.

Which is best? Newcastle building society pays 1.1% interest on its Lifetime Isa, while Skipton pays 1%. You can also open a Lifetime Isa that invests in shares rather than leaving the money on deposit. Providers include AJ Bell and Hargreaves Lansdown.

Conventional cash Isa
0.2% to 2.28% interest
This is the “original” Isa, open to everyone aged 16 or over able to deposit £1 or more. Couples can have one each, so that means a married couple can keep £40,000 out of reach of the taxman, every year. But these Isas have declined in popularity in recent years for two reasons. Firstly, the rates are poor; inflation is running at about 2% so an interest rate below that – and that’s most Isas out there at the moment – means the value of your money is actually eroding over time.

Secondly, 95% of us no longer pay any tax on our savings anyway, because we all have the personal savings allowance. Introduced in 2016, the allowance lets basic rate (20%) taxpayers earn up to £1,000 interest without tax, while higher rate (40%) taxpayers can earn £500 a year. In effect it means that even if you got 2% interest on your savings, you would need £50,000 in your deposit account before paying tax.

Pros: You can withdraw the money whenever you want, and have Financial Services Protection Scheme cover for up to £85,000 with any one provider.

Cons: Rates on cash Isas are frequently below the best savings rates at the main banks. NatWest’s cash Isa and Santander’s Easy Isa are worst, paying just 0.2% interest.

Which is best? For instant access, you can get 1.5% with Virgin Money and Coventry building society, or 1.49% with Marcus (Goldman Sachs’s new bank). Family building society is paying 1.51%. If you are happy to lock your money away, a 95-day account at Charter Savings Bank pays 1.9%, while Oak North has the top-paying two-year bond – at 2.28%.

Innovative finance Isa
4% to 15.5%, not guaranteed
This is the wild west of Isa investing. You hand your money to a peer-to-peer (P2P) lending platform – an online service that match borrowers with savers looking for higher interest rates – and hope for the best. There is no FSCS protection and if the borrower doesn’t repay the loan you’re out of pocket. It’s completely different to a cash Isa deposited with a bank or building society.

There are three big providers, projecting returns in the 4% to 6.5% region, and a long tail of smaller providers offering higher rates – with much higher risk.

Pros: The P2P concept is now a decade old, with some of the biggest providers showing a long history of rigorous credit checking and low defaults. An investor’s money is usually spread across many thousands of different loans, while some P2P operators have a provision fund to pay for defaults.

Cons: Is the additional return worth the risk? The long-term average return at P2P firms is about 4% to 4.5% – or little more than is on offer from traditional bond funds.

Which is best? Three firms have 90% of the market: Zopa, currently projecting returns of 4.5% to 5.2%, Ratesetter (4.1% to 6%) and Funding Circle (5.5% to 6.5%).

Meanwhile, this week saw the launch of a “first of its kind” Isa that allows people with £100-plus to invest to spread their money and risk across five P2P platforms (Lending Works, Assetz Capital, Landbay, Octopus Choice and LendingCrowd) and get a return of up to 5.3%. It’s been launched by investment platform Orca Money.

Help-to-buy Isas
These are a bit like the lifetime Isa, as they are designed to help people saving for a deposit for their first home, but they close for new applications in November this year.

Again, like a lifetime Isa, you are gifted a 25% government bonus, but only when you buy the home, and the bonus is capped at £3,000.

Pros: No age restrictions (except you must be over 16) and the interest rates are better than lifetime Isas.

Cons: The bonus is only paid if buying your first home, up to a maximum value of £250,000 outside London and £450,000 in the capital.

Which is best? Barclays pays the highest rate at 2.58%. NatWest, Nationwide and Virgin Money all offer deals at 2.5%.

Stocks and shares Isas
Like the cash Isa, these are relatively straightforward – anyone over 18 can put up to £20,000 a year into individual shares (such as BP or Glaxo), funds (a selection of shares or something that tracks an index, such as the FTSE 100) and bonds (loans issued by the government or companies that pay a fixed amount of interest each year).

Pros: No tax on income or capital growth. Good for long term investment (at least five years or more) and good for tax-free dividend income (4-5% a year easily possible).

Cons: Markets are highly volatile. Your investments may go down as well as up in value. The FSCS doesn’t pay you back if markets go down.

Which is best?: Impossible to guess which markets will do well in future. One thing you can check is costs. Index trackers, such as Vanguard’s range of Isas, are cheapest, and you can buy direct. “Actively” managed funds are largely sold online, such as those from Hargreaves Lansdown, AJ Bell and Fidelity.

Junior Isas
These let you put £4,260 a year into an Isa on behalf of any of your children under the age of 18. There are two types – you can choose between cash-based deposit schemes, or put the money in stocks and shares.

Pros: The interest rates are quite good. And they are a nice way to build up a nest egg for young adults.

Cons: Are they really worth it? Children have the £11,850 personal tax allowance just like adults, plus the £1,000 personal savings allowance. It’s highly unlikely they will face tax on their savings.

Which is best?: Coventry has the best cash junior Isa rate at 3.6%, followed by Danske Bank at 3.45%, then NS&I, Santander and TSB, all on 3.25%.