Being tax-efficient is important, especially with the compounding effect of getting into good habits every year. It falls into the category of 'really quite dull, but necessary'.
A lot of your allowances are 'use it or lose it', so it pays to give it a little bit of thought now, then you can forget about it again in April.
This post covers a few of these allowances: ISAs, LISAs and Capital Gains Tax, and it's mercifully relatively short and sweet. Giving you the tools to cover off your tax year end planning.
We will be releasing a post all about pensions next week. That needs its own post for two reasons, which will be explained then.
Anyway, back to ISAs, LISAs and CGT, and remember, 5th April is the cliff-edge date you need in mind, before we roll into the new tax year.
ISA
Individual Savings Accounts (ISAs) allow your savings to grow free of income tax and capital gains tax. Additionally, there is no tax to pay on withdrawals from them, making ISAs a great option for long term savings and providing future flexibility to fit around your plans.
The ISA allowance for this year is £20,000 per person, and there are various types of ISA available – with the main two being Cash (usually better for shorter term savings or those who are very cautious with their money) or Stocks & Shares (for longer term growth).
The simple difference between the two, is that a Cash ISA will offer you a fixed rate of return, which is usually below the rate of inflation. So in effect you are often getting a 'real-terms' loss, but getting some interest on your money at least.
With a Stocks and Shares ISA, there is no guarantee of a return at all, and your fund may fall in value. But, depending on how you invest, and how well that investment performs, you can receive a 'real-terms' return, meaning your money grows above the rate of inflation.
A common misconception with a Stocks and Shares ISA is that you have to invest in individual company shares. Whilst you can do this, you can also invest in funds, which combine dozens, and sometimes hundreds, or even thousands of holdings in them, much like the funds you will be invested in through your pension.
Something not a lot of people know about ISAs, is that they can be transferred back and forth between Cash and Stocks and Shares in future years, without using up any of that year's allowance. Handy if you want to grow your money now by investing in a Stocks and Shares ISA, but then move some or all of it to a Cash ISA in the future, perhaps near the time you need to use the money and don't want to take risks with it.
Likewise, if you like the idea of the tax-efficiency of ISAs, but don't feel comfortable taking risk with the money yet, or are in a rush to put it in before the end of the year, you can put it into a Cash ISA, in the knowledge you can transfer it to a Stocks and Shares ISA at a later date.
Why use ISAs?
ISAs are brilliant as a store of tax-free funds to be used flexibly in the future. Most will allow for regular withdrawals, or lump sums to be drawn out.
Some providers also offer a 'flexible ISA', which means that if you draw out during a year, you can put back the amount you've withdrawn, as well as the usual contribution allowance.
Along with pensions, ISAs are one of the most tax-efficient options for your money.
They can be utilised incredibly effectively along with pensions, when you think about the timeline you can access them both. ISA access is immediate, pension will be from age 55 for some, and age 57 for others.
If you save into both and ISA and pension, both should ideally be saved for the long-term, but you can access your ISA funds any time, should something crop up before retirement.
LISA
If you're saving for your first property purchase and under 40, its worth considering a Lifetime ISA (LISA) too.
Why? Because the government will put in a 25% bonus on whatever you contribute.
I hasten to use the words 'free money' because you've almost certainly paid tax somewhere along the lines to have that money to contribute, but it's about as close as you're going to get to free money.
You can put up to £4,000 a year into a Lifetime ISA, and whatever you put in, uses up that much of your total ISA allowance of £20,000.
Putting in £4,000 into LISA will give you a £1,000 bonus from the government.
You can leave both the investment and bonus money in cash, or invest it to try and grow it. Which approach is right for you will depend on how soon you want to buy a property.
If you've already bought your first property and are under 40, you can still open a LISA, and use it for retirement instead.
You can contribute until age 50, and draw from it from age 60.
Under current rules, if you draw from it before age 60, you'll get a 25% penalty on whatever you draw out.
Lets say you contribute the maximum of £4,000 each year from age 35 to 50.
You'll put in £60,000 and get £15,000 in bonuses added. Giving you £75,000 in the fund.
If invested, that £75,000 fund could grow very nicely after 25 years, at which point you can draw from as you please, either in lump sums or regular income as part of your retirement plan.
Why use LISAs?
Helps provide additional bonus funds if you're looking to buy your first house, or saving for retirement, and funds grow, and receive income, tax-free whilst held in them.
Capital Gains Tax (CGT)
If you've got investments that are liable to CGT, such as investments in General Investment Accounts (GIAs), it may be worth considering using your CGT allowance to realise the gains you've built up.
The CGT allowance is £6,000 per person, reducing to £3,000 per person next year, on a use-it-or-lose-it basis.
A popular strategy is to sell down some holdings to be able to then put them in your ISA, thereby using your CGT allowance and placing more in the tax-free ISA for the investments to grow tax-free.
Instead if they remained in the GIA, they would be taxable when you come to sell in the future, with a lower CGT allowance as well, meaning more tax to pay.
Equally, if those funds provide dividends or interest, that is taxable when held in a GIA, but not when held in ISA.
If you've made losses in previous years that you've realised, these can be carried forward and added to your CGT allowance for this year.
Why use the CGT allowance?
Because it allows you to realise gains each year, thereby reducing the total tax you should pay over the lifetime of an investment.
Plus, the allowance is halving from April, and it is a use-it-or-lose-it type deal.
Action - see if you can take advantage of any of these allowances before tax year end.
Being tax-efficient isn't exciting, but making your money work harder for you so that you can do more of the things you want to do, that is exciting.
If you'd like to talk to us about providing you with personalised financial planning to help with this, you can book in an initial consultation here:
Otherwise, see you next time.
The information contained within this blog post should not be taken as financial advice, as it does not take account of personal circumstances, which would affect advice given. Should you wish to talk to us about personalised advice for you, we'd be happy to do so.
Tax rates are based on the tax year 2023/24.