The various ISA accounts available can work as glorious tools in your journey to financial freedom, but they’re not quite perfect creations.
With the help of an expert, I’m going to explore some of the ways in which the different types of individual savings accounts can be tweaked and changed in order to better serve you and your finances.
6 ways the ISA system can be improved
Sarah Coles, senior personal finance analyst at Hargreaves Lansdown shares her take on improvements that the government could make to this imperfect system to better serve your needs. Here are her six swash-buckling suggestions.
1. Streamline the range of ISAs
If you read aloud all the types of ISAs back to back, it would sound like some kind of twisted nursery rhyme. And you’d be forgiven for not knowing your Help to Buy ISA from your Lifetime ISA (LISA) or being able to explain what separates a Stocks and Shares ISA from an Innovative Finance ISA.
Sarah’s first suggestion is to make the whole system more straightforward. There are a lot of rules around each type and what you can roll into what. A simpler arrangement would allow you to make the most of each version without the headaches.
2. Allow people to subscribe to as many ISAs in a year as they like
As long as you stay within the annual allowance, it’s downright weird that you can’t contribute to as many ISAs as you might like.
Pensions don’t have these kinds of restrictions. And since some ISAs have retirement in their crosshairs, why are they subject to rigid rules that prohibit your choices and are not beneficial to anyone?
Did you know you can’t put money into a Help to Buy ISA and a Cash ISA in the same year? Who does that benefit and why does it even matter?
3. Completely separate the ISA allowances
One of the biggest causes of confusion is the varying amounts you can put into each ISA. The LISA has a maximum input of £4,000 right now, leaving you £16,000 to spread amongst some other choices.
You can also put in up to £9,000 in a Junior ISA that doesn’t count towards your own allowance. If you’re being tax-efficient, the ISA landscape can get pretty confusing pretty quickly.
Why not remove the complex admin and calculations and just separate out the allowances with clear boundaries?
4. Cut the LISA withdrawal penalty to 20%
As it stands, you’d face a 25% penalty if you withdrew money out of a LISA before turning 60 (unless it was for your first property).
The maths sounds simple enough, but it’s a bit tricky. If you put in £4,000, the government tops it up by 25% leaving you with £5,000. But, if you made a withdrawal, the 25% penalty means you’d lose £1,250, which actually eats into your original savings.
A lower penalty of 20% came about during the coronavirus pandemic as a temporary measure. This slightly increased flexibility led many to access their LISA savings, resulting in the government receiving three times more tax in penalty payments than the previous year. So, they’re shooting themselves in the foot by making it so expensive for savers to access funds.
5. Re-think the limit on the value of the property you can buy with a LISA
Your LISA can only go towards a property costing £450,000 or less. This means you might face a big penalty if your dream home costs more. With average house prices at around £222,000, this doesn’t give you lots of room to play with, especially if you want to buy in London.
Coles suggests linking the figure of this limit to inflation or introducing regional variations instead of just plucking a random number out of thin air.
6. Treat ISAs and pensions consistently when it comes to inheritance tax
Sometimes, it feels like the government makes things more awkward just for the sake of it. Currently, certain pensions can pass down tax-free when you die, but ISAs can be subject to inheritance tax (IHT).
This can make your retirement planning unnecessarily divided, and may even put you off saving into ISAs alongside your pension. An ISA can be useful because pension income is taxed whereas some ISA income is not. More consistent treatment would allow you to plan your long-term finances much more easily!
Please note that tax treatment depends on the individual circumstances of each individual and may be subject to future change. The content of this article is provided for information purposes only. It is not intended to be, nor does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
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