Contractors, are you making the most of NISA?
Moving, retiring and investing. These three big and potentially painful financial investments for you as a contractor have, for as many months now, been a lot ‘NISA’ – sorry -- ‘nicer’ to save towards, writes IFA Tony Harris of ContractorMoney.
It’s all because since July 1st this year, the maximum amount of tax-free cash you can stash in an ISA shot up from £11,880 to £15,000. Renamed the New ISA, or NISA for short, the move was accompanied by a significant improvement in the flexibility such accounts offer.
On top of being able to shelter more of your cash from the taxman, the greater flexibility of NISAs certainly make them much nicer propositions than their predecessors, the old ISAs. Yet are contractors making the most of this offering from George Osborne’s 2014 Budget when it comes to the big three financial events -- moving house, retirement planning and investing?
How a NISA really is nicer for contractors
Unlike the old ISAs which limited the amount investors could hold in cash versus equity, the full £15,000 annual allowance for the NISA can be held as either cash or stocks and shares -- or any combination of the two. This new shape to the tax-free investment vehicle really is moulded perfectly for contractors. Specifically, it allows you to switch to holding your savings in equity when you are ‘in-contract’ and, if necessary, to then switch to cash (which carries lower risk) when you are ‘out-of-contract.’ What’s more, you are now able to transfer previous years ISA savings freely between stocks and shares and cash. This is the first time such flexibility and accumulating has been permitted for individual savings account holders.
Despite these undoubtedly positive developments, the ISA market has been shrinking in recent years, with estimates from HM Revenue & Customs showing that 13,473 ISAs were opened in 2013/14. That’s no small number of new accounts but it’s still down on the previous tax year, when there were 14,606 subscriptions.
At the same time, there has been a significant shift in those subscribers’ attitudes towards investing in stocks and shares in that period as in total, in the 2013-14 tax year, about £18.4bn was invested in equity ISAs, up from £16.5bn in 2012-13. This shift has been attributed to the low cash ISA rates being offered on the high street during that period, and suggests savers became disillusioned with cash ISAs due to the poor rates offered by providers.
Where the NISA comes in
Keeping these trends in mind, the flexibility of the NISA really does come to the rescue. That’s because these new accounts let their holders move between asset classes without any of the hassle that used to be involved when transferring ISAs. And while investors continued to favour cash ISAs in the 2013-14 tax year (with a total of £38.8bn invested), with the NISA, they will no longer be trapped in a low-yield cash ISA, and can instead move funds freely to stocks and shares (which for some time now have been providing greater returns than cash), assuming their attitude to risk says they can!
Your appetite to risk and how it’s flavoured
As ever though, we recommend that contractors consider carefully their attitude to risk before jumping from cash into the stock market. They must balance their appetite with their financial goals, always bearing in mind that stocks and shares undeniably carry more risk than cash, which offers considerably less troughs and peaks. Your appetite for risk will of course be flavoured by any manner of factors, but will often primarily ride on how long you can hold your investment for. Generally-speaking, if you’re after short-term access to funds then you may prefer to keep the majority of your NISA in cash. By contrast, if you have long term plans for your nest egg, then you can likely afford to ride out any short-term volatility in the markets.
Using a NISA to save for those three big financial events
But almost regardless of your individual attitude and objectives, the NISA’s tax-efficiency, unprecedented flexibility and unique depth as a war-chest mean contractors shouldn’t overlook it when the ‘big three’ are upon you:
Perhaps you are saving a deposit to put down on your first property, or maybe you are considering venturing into buy-to-let? Pulling together a deposit can be challenging. However, you can now take advantage of the new ISA limit to take money currently held in less tax-efficient accounts, like a standard savings account, and move it under the NISA umbrella.
This will help you establish a substantial lump sum which benefits from tax-free growth as opposed to a regular savings account that cannot offset as much interest. The potential for growth is far greater with a NISA as you can invest in stocks and shares alongside your cash investments, so you can often benefit from higher returns long-term although the risk may be greater. If you leave your deposit in a traditional high street savings account, then you are reliant on the interest set by your bank or building society which is likely to be at lower rates than the equivalent NISA.
A NISA is well-known for being tax efficient, and your choice of investments can make a big difference to the level of benefit that is generated. With the flexibility to interchange between cash and stocks and shares, and with the new increased allowance, there is greater potential to save for a financially-comfortable future.
This strategy could certainly allow you to generate additional tax-free income in retirement, but we tend to advise clients to invest in an ISA alongside a more traditional pension arrangement, only because it can be all too tempting to dip in to an easy access ISA! By contrast, a pension is protected until you reach age 55 at which point you can release 25% as a tax-free lump sum, so you are more likely to accrue a substantial nest egg over time using a personal or company pension.
Even more importantly, a pension offers immediate tax breaks on investment which is very appealing contractors. You can invest up to £40,000 per year and benefit from tax relief at your highest marginal rate on personal investment. You can also invest via your limited company and reduce a hefty corporation tax bill to nothing. In short, contractors really are in an optimum position to benefit if they open a pension alongside a NISA.
Investing for your children
The other good news at the last Budget, especially if you’re a parent, is that the Junior ISA limit has also increased to £4,000 from £3,840, so you can now save even more towards your children’s future in a tax-efficient way. Using the Junior ISA, which is in your child’s name and can’t be accessed until they reach their 18th birthday, allows you to protect your savings from the temptation that you may feel to dip in to your own ISA from time to time. If you start saving when your child is born, then you will have £72,000 by their 18th birthday even without any growth on your investment! That’s more than enough to see your child through higher education or to act as a deposit for their first home.
And remember, investing in a Junior ISA doesn’t affect your own £15,000 annual NISA allowance. As a result, you could potentially invest up to £19,000 a year and benefit from tax-free growth -- or even up to £34,000 if you and your partner both use your annual allowances.
The NISA has been dubbed the ‘Super-ISA’ thanks to its massively increased annual allowance but this name could prove true in more ways than one. There has already been an upturn in the number of savers making use of their allowance this year, partly we think due to the press coverage of the NISA.
This rise in activity will undoubtedly continue as the year goes on and we expect that more savers will look to increase their investment up to the £15,000 limit before the tax-year ends.
As to what these beefed-up accounts will be made up of, we’ll have to wait and see. A national broadsheet reports that savers using the NISA allowance put ten times more money into cash than stocks and shares last month. But we are seeing contractors explore the greater potential returns offered by the equity options associated with the NISA, and expect many more to follow suit before the year is out, especially as cash savings rates remain stubbornly low.
As mentioned previously, appetite to risk is a key consideration before taking action, but those investors who have already chosen to invest in stocks and shares have seen far greater returns on average over the last 18 months than their cash counterparts. Markets are currently continuing to recover and the old adage that ‘fortune favours the brave’ has, so far at least, held true.
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