You’ve probably seen these reports about the Cash ISAs being restricted to £4,000 and no doubt seen its almost universal condemnation. Me, I wonder if this has been leaked to test the appetite for it with the public. Odd that it’s come now when interest rates are much better, the time to do this would have been when savings interest was pitiful, but the opposite happened then.

If this does go ahead it will be something of a reversal. Back when ISA started, Cash (Mini) ISAs were restricted to £3,000 with only Stocks & Shares (Maxi) ISAs allowed the then full £7,000. Cash held in a Stocks & Shares ISA was subject to Basic Rate Income tax. You also couldn’t transfer a Stock & Shares ISA into a Cash ISA. Over time, things have been simplified, merged and re-merged (remember NISAs).

Why would these changes happen, will they work?  

The motivation is reportedly to make people invest (rather than save). However, I don’t think this will be effective. I think people don’t invest due to the risks and their knowledge. As advisers, we see many people investing despite having no ISA allowance and also many people with loads of cash sat in the bank outside of ISAs. I don’t think making ISA more complicated will help.

There’s also the matter of what banks do with the money? As it is, they lend it and it gets invested or spent in the economy, and what’s wrong with that? Reducing this money supply will make borrowing more expensive?

Also, what are people going to invest in? Main market funds, widely distributed across the world, most of which is secondary market. If encouraging people to invest for greater returns for themselves is the sole driver then fine, but lets not kid ourselves that it will help the UK economy all that much. To really promote UK investment, then the VCT/EIS sector is probably were money is needed but that’s not the place for sizeable amounts of ordinary savers money to go. I could say more on this, but this post is about ISAs!

Wrong Discussion

In my view we are focusing on the wrong thing. We are discussing changes to a bridge when really we need a tunnel. I think ISAs should be completely SCRAPPED! <insert chorus of Gasps!!!!>

Just to be clear, I will continue to promote ISAs for as long as they exist. I might believe we need a tunnel, but while a bridge is the only way across the river, I will continue to drive over it.

What’s my issue with ISAs?:

• They benefit people with lots of money far more than anyone else, £1m ISA with a 3% yield will give £30,000 tax free income. That’s not very progressive when working for £13,000 sees a marginal rate of 28% Income Tax & National Insurance.
• The shape and type of your wealth determines your tax benefit. Sell a business or property and you can reinvest £20,000, while trickling, £20,000 per year can build up a massive tax free investment.
• £20,000 is way more than most people have spare EVERY year. Meanwhile, if you have £30,000 then you need at least two types of investment. The allowance is therefore both too high and too low at the same time.

This is not to say they’re without merit, they are simple (if you ignore the LISAs, IF-ISAs and other marginally used stuff). Meanwhile the other options aren’t especially good:

Regular people must be really confused by GIA, what triggers tax is nothing to do with how much money you put in or withdraw but by a load of other factors. Do we really think clients understand they need to declare the invisible income on their “ACC” funds and then increase the base cost. What about Section 104 pooling rules. Personally, I think the worst tax changes of recent times are restriction of the CGT Exemption and Dividend Allowance. These where probably some of the fairest allowances, very helpful at the low end but also with a natural cap on maximum benefit they bestow. Reducing them made GIAs far more complicated for small investors.

Bonds meanwhile suffer the problem of not being readily available to direct investors. Onshore are relatively simple but not having any gross roll up make them unattractive. Offshore bonds are unviable for small sums, plus is promoting Offshore Bonds really what the UK government should be doing? Both have weird tax treatment and don’t get me started on top-slicing! Not to mention it’s also hard to switch providers.

All these options require filing tax returns, but only if the investor realised they need to do it. Does turning regular folk into accidental tax dodgers do anyone any good? I don’t think so.

The one I haven’t mentioned yet is Pensions, they are a good option, but for that small issue of being stuck until age 55,57 or 58.

Drastic Proposals

Far be it from me to point out problems without offering solutions. What we need is one all around straight forward investment vehicle, that’s good enough for the vast majority of people to be their only investment. I have already hinted at one solution; you know how some Life Policies are written under pension rules, well why not have investments the same way.

Clone the existing pension rules, remove the age restrictions and tax relief and replace the 25% TFC with a running total of the contributions. The the capital could then be taken out with no tax (similar to Bonds but without the 5% x 20 years thing). It would have gross roll up like Offshore Bonds and pensions, only be taxable when withdrawn, and be taxed by PAYE so no self-assessment to do.

Most providers have the facilities in place already for their pension, so adapting them should be easy. Existing ISAs could be transferred into the capital section, allow Offshore bonds to be assigned in, with the capital and gain split into taxable and non-taxable sections. Onshore bond and GIAs would need some accommodating but nothing insurmountable. While not as simple as ISAs, it’s still a relatively straight forward concept and would very similarly to investors other big saving vehicle, their pension.

They could also add some sweetness, by adding a provision where if you buy your main residence with the fund, any gain is deferred until you ultimately downsize your house or die, further integrating investment into life planning (plus naturally replacing the LISA).

Suggest Your Alternatives

I am sure plenty of people will hate this idea and it’s not perfect by any stretch. One alternative which I think might get traction, is to tinker at the edges, wait for the cascade reaction then tinker some more. Hmm maybe I should have led with this one.

Phil