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Top ISA myths and the truth

With today being the deadline for self-assessment tax payments, many people will now start thinking about how to make the most of their remaining savings and put them into a tax wrapper.

ISAs can be one route to achieve this so we’ve shone a light on some of the most common ISA myths, especially with just over two months remaining till the end of the tax year.

Freetrade’s Senior Analyst Dan Lane explains the facts behind the top 6 ISA myths

1. You need a lot of money to get started

Everyone has a £20,000 allowance each tax year but there’s nothing to say you have to hit that upper limit. Some people will, some won’t, and it’ll reset come the next tax year.

The current tax year started on 6 April 2021 and runs until 5 April 2022.

Opening an ISA can cost as little as £3.

2. Opening an ISA is complicated

It’s really not. Just keep your national insurance number handy and the rest should be relatively straightforward.

Before you click anything though, here’s a bit more information on who can open an ISA. You have to be:

16 or over for a cash ISA

18 or over for a stocks and shares or innovative finance ISA

18 or over but under 40 for a Lifetime ISA

And you also have to be either:

A UK resident

a Crown servant (working overseas in the civil service, for example) or their spouse/civil partner if you do not live in the UK

You can’t open or hold an ISA on behalf of someone else.

3. ISAs are just for cash savings

You can opt for a cash ISA, normally offered by banks and building societies but ISAs aren’t just for cash. There are four flavours of ISA:

Cash ISAs

Stocks and shares ISAs

Innovative finance ISAs

Lifetime ISAs

In a stocks and shares ISA you can hold company shares, exchange traded funds (ETFs), investment trusts as well as cash.

A similar misunderstanding is that you can only have one ISA each tax year.

You can put money into one of each kind each tax year, as long as you don’t go over your £20,000 allowance overall.

For example, if you had opened a stocks and shares ISA with a provider in the current tax year you couldn’t then open a second one with another firm in the same tax year.

4. An ISA won’t help me, I don’t pay tax on my savings anyway

While a lot of us stockpile cash in general savings accounts, low interest rates have meant the benefit of doing so has faded quite a lot in recent years.

If you are using a cash savings account, chances are you won’t pay tax on any interest you get because there just won’t be very much.

This low rate environment has made a lot of people ask themselves where else they can put their money and get a return on it rather than just gather dust.

Many are taking the step from cash into investing in the hope of better returns. And where people are ready to accept the risks that come with the stock market, they could begin to invest outside of an ISA.

But what if your gains exceed the £12,300 capital gains tax (CGT) allowance? You’ll be liable for tax on those gains above the threshold.

Stocks and shares ISAs offer a way to invest in the knowledge that any gains you make won’t be liable for CGT.

And if the goal of long-term investing is to build up the snowball effect of compound interest over time, the last thing you’ll want is to penalise your gains later on because you chose a different account to begin with.

5. You can’t take your money out

There may be different types of accounts with lock-in periods or terms that penalise savers for taking money out early.

Thankfully, stocks and shares ISAs don’t carry these rules. You are free to buy and sell assets in your ISA, and withdraw your money when you need it.

That said, good investing is about letting time do the work. Having a long-term view from the beginning is a key part of developing strong investment principles.

6. I should wait for the new tax year to open my account

It’s probably when you’ll hear most about ISAs because the 5 April deadline is looming but it’s not the only time to open one.

Despite how many people leave it to the last second to open their ISA, or squeeze in their last contributions to make the most of their allowance, you can open an ISA at any time.

If you’re planning on contributing to an ISA regularly, maybe monthly right after you get paid, it could be a good idea to start your account sooner in the tax year rather than later. It’ll give you more time to make your savings and investments tax efficient, and is especially relevant if you think you might get near the £20,000 allowance.