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A cash ISA is a savings account where you don’t pay tax on the interest you earn. It’s that simple! Everything you can do with a normal savings account you can do with a cash ISA. The tax-free bit is the only real difference.
In normal savings accounts, you’d get taxed on whatever you earned in interest. A cash ISA lets you keep 100% of the interest, which is why it has been a popular option among UK consumers for years.
Who can open an ISA?
Any person over 16 in the UK can put £20,000 into a cash ISA each tax year. Once your money is in a cash ISA, it stays tax-free year in year out.
In normal savings accounts, you’d get taxed on whatever you earned in interest. A cash ISA let’s you keep 100% of the interest, which is why it has been a popular option among UK consumers for years.
What’s the “best” ISA?
Generally, the best ISA has the highest interest rate.
But as with all things finance, there are different products suited for different needs.
If you want access to your money then the best for you is an easy access cash ISA.
If you’re happy to lock your money away for a fixed term then, you guessed it, a fixed rate cash ISA might be more up your street.
If you’re happy to put money aside for a long time, and are willing to take the risks that come with investing – you should check out stocks and shares ISAs.
Since the EU referendum, the rates of British people putting their money into cash ISAs has halved.
The recent decline of the cash ISA isn’t just down to Brexit, however. There are a couple more important factors which are making the cash ISA less popular.
Personal savings allowance
In April 2016, the ISA was made a bit redundant. Under new government rules, basic-rate taxpayers don’t have to pay any tax on the first £1,000 of interest earned in banks. This is known as the ‘personal savings allowance‘ (PSA), and it has encroached on what used to be the territory of the cash ISA.
Isas vs inflation
You’d be hard pressed to find any cash ISAs which can beat inflation. We’re living through a period which is difficult for savers hoping to protect their nest eggs.
How are inflation and interest rates linked?
Generally speaking, when interest rates are low people tend to save less and to spend and borrow more. Let’s clarify this with an example:
At the time of writing, inflation in the UK is at 2.5%. Put simply, this means a basket of shopping costing £100 this year will cost £102.50p in a year’s time.
Now imagine you’ve also got £100 in a cash ISA paying 1.13%. That £100 will be £101.13p next year.
Because interest rates are low, there’s less incentive to save. If you’re not saving you’re more likely to spend, and you’re more likely to borrow too because it will be cheap to do so.
While recent numbers of people putting their money into ISAs has dipped, it is still a very popular way of holding on to savings.
Even though there are better rates available in different savings accounts and current accounts, ISAs still have their benefits.
ISA interest doesn’t count towards your PSA. You can make interest in your ISA and still get the £1,000 of tax free savings through your PSA.
ISAs give protection against future interest rate changes. If interest rates rise, people will have to pay more tax (in other savings accounts that aren’t tax-free). An ISA offers protection against this.
Protects savings if you move up a tax bracket. Having a cash ISA would ring fence your savings if you expect you might have to pay more tax in the not too distant future.
Interest rates won’t be low forever! When interest rates rise a bit more, the ISA should return as a more than viable option for those looking to grow their savings.
Charlie Barton is a publisher at Finder. He specialises in banking and investments products, including banking apps, current accounts, share-dealing platforms and stocks and shares ISAs. Charlie has a first-class degree from the London School of Economics, and in his spare time enjoys long walks on the beach.
Read more on this topic
Current interest rates in the UKWe have researched the average interest rates to show how much interest you are making by keeping your cash in a savings account.
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