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With Kyle away, Sam Benstead is back in the chair to host the latest On The Money podcast, which is focused on speculation the government may make changes to the Cash ISA allowance. To examine the topic, Sam is joined by Craig Rickman, personal finance editor. The duo discuss whether this will turn more savers into investors, and how they would change ISAs to make them simpler.
Sam Benstead, fixed income lead at interactive investor: Hello. I’m Sam Benstead, and this week, Kyle is out of office again, so I’m stepping in for another week to host On The Money, the weekly look at how to get the best out of your savings and investments. This week, myself and Craig Rickman, personal finance editor at interactive investor, discuss ISA reform. Craig, thank you so much for coming on the podcast.
Today, we’re talking about ISA reform. I think it’d be really useful for listeners to actually first hear you run through all the types of ISAs that are available, and then we can get on to explaining why they could be in need of some reform.
Craig Rickman, personal finance editor at interactive investor: Sure. So, there are six ISAs in operation. There is the stocks and shares type, Cash ISA, Lifetime ISA, Innovative Finance ISA, Junior ISA, and Help to Buy ISA.
So, five of them are open to new subscribers. The one that isn’t is the Help to Buy ISA. So, there’s six, and I think there’s some agreement in the financial industry that that’s too many.
Sam Benstead: And ISA reform has been on the cards for a while. We had the British ISA that Rishi Sunak wanted to introduce when he was running for re-election last year, but that has disappeared, hasn’t it?
Craig Rickman: Yes. So, there’s been quite a few changes to the ISA landscape since Labour took power. As you mentioned, the British ISA, that was an idea from the previous government to add an extra £5,000 to the current £20,000 ISA limit, but you had to invest in UK-listed companies. So, that idea was scrapped, it was thrown in the bin. I don’t think that was a huge surprise to anyone.
In the Autumn Budget, the government chose to freeze the £20,000 limit on ISAs until 2030, and also froze the limits on some of the other ISA types where the limit is a bit lower. So, with a Lifetime ISA, you can put £4,000 in, that was frozen.
And the Junior ISA, that’s been frozen at £9,000 too. They’ve also launched a consultation into the Lifetime ISA to work out whether it’s still fit for purpose. I’m sure we’ll come on to a bit more about that in a bit.
And then we had some developments a bit more recently in the Spring Statement, but there were some things that happened before that. There’s been a few things that have happened afterwards too.
Sam Benstead: And what’s your view of all this then? Are things moving in the right direction, or is it just more noise around a topic which actually most people at home feel quite confused by?
Craig Rickman: Yes. So, I think it seems to be moving in the right direction. It’s still early days in Labour’s return to power. They seem keen to want to change things up in the ISA landscape, and we hope that they’re looking to change things for the better. And for the better, I mean, to make things simpler.
But some of the changes and some of the rumoured reforms, not everyone will welcome them. It depends what happens, particularly the rumours around what could happen to Cash ISA limits. That’s been pretty divisive. And, again, we’ll certainly talk more about that in a bit. Hopefully, we’ll be moving towards it, but we still need to know more about what’s going to happen down the line.
Sam Benstead: I think, like you say, the cash question is the big one at the moment, and any changes will come in autumn. So, the government’s got six months to think about what it might want to do. But, generally, its problem is that 63% of ISAs are Cash ISAs, with just 25% being the stocks and shares type, and the government just wants more people to be investing.
But, actually, with this £20,000 allowance, most people seem to be drawn to the Cash ISA, the security of a fixed-savings rate, or a variable rate, rather than investing in the stock market via a Stocks and Shares ISA. So, I was looking at some of the numbers, and there’s actually £300 billion in Cash ISAs at the moment.
So, a huge sum, and the government wants to unleash a lot of this money by encouraging people to invest, particularly to invest in the UK stock market.
Craig Rickman: So, the rumors around that have sort of focused on the Cash ISA allowance and whether it will be reduced. City bosses of financial firms have been lobbying to reduce it. The figure that’s been put out there is £4,000. So, that would be a huge reduction from the current £20,000 limit.
In terms of what Labour said about this, in the Spring Statement, although Rachel Reeves didn’t mention anything about ISAs in her speech, a root around in the red book unearthed a bit more info about Labour’s plans for the ISA landscape.
I’ve got it here, I’ll just read it out. So, it says that “the government is looking at options for reforms to individual savings accounts, ISAs, to get the balance right between cash and equities to earn better returns for savers, boost the culture of retail investment, and support the growth mission. Alongside this, the government is working with the Financial Conduct Authority (FCA) to deliver a system of targeted support to give people the confidence to invest.”
Pretty clear there that Labour is looking to make some change, But how that change will look, we still don’t know for sure. However, in the past week, Rachel Reeves, speaking to the Commons Treasury Committee, said that she doesn’t want to rush the changes here, but she did say that she thinks that reform would be worthwhile, and that’s what we’re looking at at the moment.
So, yeah, I think we’ll hopefully hear a lot more over the next few months and then find out a great deal more in the Autumn Budget later this year. But it does seem like the Cash ISA limit will reduce. It now seems a matter of how much it will be reduced by.
Sam Benstead: Rumours I’ve seen suggest that there could be a £4,000 Cash ISA limit. So, if you’re going to invest the £4,000 in cash, that leaves £16,000 to go into a Stocks and Shares ISA or another type of ISA. What do you think about that £4,000 sum? Is that realistic?
Craig Rickman: I guess the interesting thing with ISA limits and particularly the cash ISA limit is that this wouldn’t be a brand new idea. If you go back to when ISAs were introduced in 1999 all the way through to 2014, the cash ISA limit was smaller than the shares portion or the overall ISA limit. So, when the ISA allowance was £7,000, you could put 3,000 into a Cash ISA. So, if you wanted to use the full amount, you would have to put £4,000 in the shares type. Alternatively, you could just put the whole lot in the shares type. And that went all the way up to 2014, and then, George Osborne, in his 2014 Budget, which was the famous one for introducing pension freedoms, also shook up the the ISA landscape.
So, what he did was to equalise the ISA limits across cash and shares and increased the amount that people could put in as well. He also allowed transfers from Stocks and Shares ISAs to Cash ISAs. So, that was quite a big change because you couldn’t do it before that.
So, this wouldn’t be brand new territory, but we’re talking about a Cash ISA limit that would be far lower than the overall limit and not half, like it was when that change happened. So, it would be pretty radical. You cover a lot about investing, Sam. What’s your take on what this could mean for the investing space?
Sam Benstead: I think, generally, it’s very exciting. I think everybody should be investing, and there’s a real lack of appetite for it among some people. I see friends and family that have no idea what to do when it comes to investing, and they stick to Cash ISAs when, really, over the long term, they’ll be much better served by by using a Stocks and Shares ISA. But just reducing the Cash ISA limit and forcing people to use a Stocks and Shares ISA comes with lots of difficulties.
I mean, firstly, I don’t think people understand what a Stocks and Shares ISA actually is. They see the words ‘stocks and shares’, which actually just mean the same thing, and they’re immediately confused, and then they have to decide what they actually want to invest in. The implication is that they have to buy stocks, they have to buy shares, and that is a risky thing to do. People won’t know where to start.
So, actually, I think this has to come alongside a lot of financial education, which obviously we believe in here at ii because people need to understand the range of options they have available to them when they move money into a Stocks and Shares ISA. This can range from just leaving cash uninvested, which I think a lot of people don’t know they can do. They don’t actually have to invest. They can open an account and leave cash in there. And if they wanted a secure bank account-style return, they can look at money market fund. If they want to be a bit less risky, they can invest in bonds, they can look at equity funds, they can look at investment trusts. And then, finally, individual shares if they wanted to take a little bit more risk.
But just pushing people to open a Stocks and Shares ISA and leave the comfort of a Cash ISA is a big deal, and it has to come alongside education.
Craig Rickman: Absolutely. I couldn’t agree more. There’s no guarantee that it will dramatically increase flows into the stocks and shares version. And if people don’t appreciate the merits of investing and, also the risks as well, in stocks and shares over the long term, then squeezing the Cash ISA allowance might only go so far.
So, yeah, there’s this educational piece alongside it, which I guess the government hopes to achieve with this targeted support regime that was flagged in the red pages of the Spring Statement. So, this is a way for financial providers to guide people towards suitable financial decisions and products. So, whether that’s what to invest in or what pension options to choose. So, I think the government hopes that this will be a big factor too.
Sam Benstead: And what do you think, Craig, about people who might have invested in Cash ISAs? They see the limit’s now dropped to £4,000 or £5,000, and then they decide not to move the money into the Stocks and Shares ISA and actually leave it outside the tax wrapper, what kind of taxes would they be paying on any income earned from their savings?
Craig Rickman: So, if you keep your money in cash savings, then income tax is applicable. There is a savings allowance, but not everyone gets it. Most people get it. But there’s different amounts depending on which tax band you’re in.
So, if you’re a basic-rate taxpayer, you get £1,000. You can earn £1,000 in interest every year and pay no tax on it. If you’re a higher-rate taxpayer, so if you earn a smidgen more than £50,000 a year, then you get £500. And if you are an additional rate taxpayer, so if you earn over £125,140, then you don’t get a savings allowance.
So, basically, what it means is if you are a basic-rate taxpayer and you’ve got more than £20,000 in savings, then you’re likely to pay some tax on what you earn. If you’re earning more than £50,000, that would be £10,000. And then, obviously, if you earn more than a £125,000 you pay tax on everything.
So, if you have significant sums in savings, then it means that you could be hit with a sizable tax bill, and that’s something to watch out for.
But whether people will then think, well, I’ll invest more in the stock market to avoid paying that tax is another thing. Time will tell with that, and also we will wait to see exactly what Labour does with this.
Sam Benstead: I think education on investing and how you can build wealth over the long term using the power of compounding is really key. At ii, we have an annual ISA millionaire report. Everyone there is investing, obviously, and mostly it’s in equities, lots of investment trusts. And although there will be drawdowns, I mean, we’re recording this days after Trump’s tariff announcements, equity markets are down 10% to 15% in some cases. But over the long term, it’s proven that equities return more than cash, they return more than bonds, and sticking it out, investing regularly is a key way of building wealth.
If more people understood this and made the most of their Stocks and Shares ISA allowance, then overall, people would be wealthier and more comfortable in their finances. That being said, I mean, we all know the power of investing, but Cash ISAs do play an important role, don’t they? What if you’re saving for a house deposit? What if you’re in retirement?
So, would there be a bit of a gap if we got rid of this product, Craig?
Craig Rickman: Yeah. I think that’s the thing, isn’t it? Cash ISAs when you’re looking at longer-term periods, stock markets typically outperform cash. But if you’re looking to meet short-term needs for emergencies, then that’s where cash has a really important role to play because you want to be taking investment risk off the table. You want to know that your capital is secure from the ups and downs that you would be exposed to in the stock market.
So, if you need any money for short-term purchases, holidays, a new car, or as a safety net for an emergency and unexpected expenses, then cash is the right thing to do. I think also that some people are a bit more cautious by nature. They may still invest in an ISA, in a stocks and shares ISA, or their pension, but might want to keep a large buffer for their peace of mind. Attitudes to investment risk are personal.
The agreement is that we all need to take some risk in our portfolio over long periods to protect against inflation. But some people are happy to stomach a lot of risk, and others prefer taking a bit less. There’s no right answer here. But holding an amount in Cash ISAs, whether you’re in retirement or saving up for any sort of shorter-term goals, can have a really important role to play.
Sam Benstead: Absolutely. I’d encourage people to look at money market funds if they were looking for a cash-like return from a product available inside a stocks and shares ISA. So, these are just funds where you pay a professional fund manager to achieve a cash-like return for you. They put your money in bank accounts, and they use other money market instruments, which deliver an instant return for them, as well as using things like very short-term bonds. So, all those are available inside a stocks and shares ISA, and I think many people are aware of that.
So, for next to no risk, you could actually get about 4.5% currently from money market fund products, and the one that seems to be attracting the most attention is the Royal London Short Term Money Market fund. It’s been one of the top funds over the past couple of years on our platform. Let’s move on to the Lifetime ISA, the LISA. So, Craig, what is this product?
Craig Rickman: Very good question. So it’s a type of ISA that has a dual purpose. It’s designed to be used for putting down a deposit on a first home, or for your retirement. If you don’t use it to buy your first home, then you can leave it till age 60 and then take it out then to help fund later life.
It was launched back in 2017, and there’s been a bit of controversy around it, I guess. It’s sort of dual purpose, but the argument is that it doesn’t make a particularly good fist of either, which I’ll come on to shortly. But, anyway, the Treasury Select Committee in January launched a consultation to find out whether it’s fit for purpose and we’ll find out more soon about what’s going to happen. I guess they could scrap the product, they could reform it, or they could leave it as it is. I don’t think they’ll leave it as it is. There will be some change whether that means it gets kiboshed or improved. So, that consultation is ongoing at the moment. So, hopefully, we’ll learn more about what’s going on with it.
Sam Benstead: And what are the good and bad things about a Lifetime ISA, then?
Craig Rickman: So, let’s start with the good. You can get a 25% bonus every year up to £1,000. So, you can invest £4,000 in a LISA, a Lifetime LISA every year. So, if you invest £4,000, you essentially get it topped up to £5,000. So, that’s great. Free money, plus any interest in growth is tax free. So, you can invest in different types of LISA. There’s two, essentially. So, there’s a cash type and a stocks and shares type.
You can pick which one you want, which, again, will probably boil down to your investing time frame. So, if it’s short and you’re looking to buy a house in the next few years, then you may want to opt for cash. If it’s longer, perhaps if you’re using it for your retirement, then the share type may be more appropriate. So, essentially, it means that when you take the money out, eventually, whenever that is, you get to keep the lot, other than the investing charges you might pay. So that’s great. That’s the good bit.
On to the drawbacks, and there are a few here. So, when it comes to buying your first home, the property value has to be £450,000 or less, and that value has been fixed since the Lifetime ISA was launched in 2017, despite rising property prices. So, it depends on where you live in the country, but if you’re living in London, and looking to buy in London, that might not be enough.
So, that’s a huge problem and one that the Treasury Select Committee is looking at. Another issue is that you can’t take one out after age 40. So, if you’ve taken one out before 40, you can continue to pay into it. But if you’re older than 40, you can’t take one out. You can’t pay into one beyond age 50.
So, it doesn’t really function as a retirement savings product either in that respect. The final drawback, I guess, and this is one of the big ones, is that if you don’t use the money for either purpose, you not only lose the bonus, but also get slapped with an extra 6.25% penalty. A lot of people have been been paying these. Lifetime ISA early withdrawal charges totalled £75 million in the 2023-24 tax year, according to HMRC, which is less than ideal. Hence, why it’s currently being looked at.
It’s a big decision about what happens with it, and it will be a big decision. I don’t think it’s a decision that they’re going to rush, but at some point, we’re going to find out what they’re going to do.
Sam Benstead: And what’s your best guess of what they might do in the autumn, say? Are they going to continue the product, but maybe allow you to buy a more expensive home on it, or do you think they might get rid of it altogether?
Craig Rickman: It’s a really good question. I don’t think they will leave the product as it is. I think that is almost certain. So, the big decision is to reform it, and that reform would probably take the shape of allowing people to continue to make contributions after age 50, raise the property price. And I guess not just raise the maximum property price, but then raise it every year thereafter. It needs to keep pace with rising prices in the future. And then also do something about the penalty to make sure that people aren’t worse off if they need to access it early. Because that’s the problem, isn’t it?
If you were looking to use it to buy your first home, and then the home you’re looking to buy is worth more than £450,000, then you’re going to have to take the money out early, suffer the penalty, which is less than ideal, and that’s going to eat into your deposit to buy the house that you want. So, I think that they’re going to be the big decisions. If I had to choose between the two, I think they will probably reform it, but I really don’t know. It’s a massive call.
So, in terms of ISA simplification, if you were in charge, Sam, and you could pick three things to change about the tax wrapper, what would they be?
Sam Benstead: That’s a great question. I’d first just say that ISAs are brilliant. We’re actually really lucky, I think, as a country to have such a generous savings allowance where the gains are free from the taxman, and it’s quite hard, I think, for the government to claw those gains back. So, it’s a brilliant product, but there definitely does need to be some reform. I think for me, the glaring issue is that there’s too many people using this to own cash products and not enough people using it to invest.
To help solve that, one of the first things you could do is perhaps rename the Stocks and Shares ISA, which I think is just confusing and a bit jargony, and you could call it something like an Investment ISA. I think that’s way more straightforward. In terms of the allowance, I think Rachel Reeves is on to something here in terms of reducing what you can invest in a Cash ISA. So, maybe if that goes to 50:50, that could be a good thing to see. So, £10,000 is allowed in cash every year and the other £10,000 could be invested in the Stocks and Shares or Investment ISA.
I think that could be a very interesting move and would definitely encourage people to invest more. And the final thing I’d say is that Rachel Reeves wants more people to invest in UK shares. So, pushing people to put more money into Stocks and Shares ISAs doesn’t necessarily achieve that. You can invest in US shares, cash products, bonds, funds that invest in companies from all over the world. So, there’s no obligation in a Stocks and Shares ISA to own UK assets.
One thing she could do to encourage more investment in the UK stock market is to cut stamp duty, which is 0.5% on your purchase transaction on UK shares. So, she could cut that for retail investors inside the ISA wrapper. So therefore, more money flowing into ISAs, more of that would actually flow into UK shares because they’d be cheaper to buy.
Craig, are there any changes you would make? And in the Autumn Budget, what do you expect Rachel Reeves to do?
Craig Rickman: In terms of changes I would make, I think moving to a single ISA would be a good idea. One that allows you to move assets freely within the tax wrapper to suit your current needs and your changing needs over time. I think that would make things simpler for people to understand and to direct their savings and investments to the things that are most suitable for them. So, that’s what I would look to do in terms of changing ISAs.
What Rachel Reeves will do later this year, well, it seems like she’s going to do something with the Cash ISA limit.
We still don’t know exactly what. Again, like I was saying earlier, cutting to £4,000 would be extreme. Personally, I’m not convinced that it would make a huge difference in encouraging people to invest their money for the future instead of save, but I will wait and see on that.
So, I think we’ll get some change there, and, hopefully, we’ll get an update on the Lifetime ISA as well. For those who are perhaps weighing up whether to use the product or not with this consultation running, people are going to want some clarity and certainty about how the future looks for that product, so they know if they’re going to choose it and use it to save for their future. Whether that’s buying a home or for their retirement, then they know the type of product that they’re investing in and what it’s going to look like in the future. So, they are the things that I would expect to see.
Sam Benstead: My thanks to Craig, and thank you for listening to this episode of On The Money. If you enjoyed it, please follow the show in your podcast app and do tell a friend about it. We have a week off from the podcast, so you’ll see us again in a fortnight. If you get a chance, leave us a review or rating in your podcast app too. You can join the conversation and ask questions to tell us what you’d like to talk about via email on [email protected].
And in the meantime, you can find more information and practical pointers on how to get the most out of your investment on the interactive investor website at ii.co.uk.
On The Money is an interactive investor (ii) podcast.
