A stocks & shares ISA, otherwise known as an equity ISA or investment ISA, is a way to invest in a wide range of funds and other stock market investments whilst retaining the tax-efficient element of a traditional cash ISA, with the money held in such an account being largely exempt from income and capital gains tax.
However, unlike cash ISAs, where savings are held in a bank or building society account, with the stocks & shares version you actively invest your money across your choice of funds in the stock market or directly into company shares. The majority of such accounts use collective investment funds, such as Unit Trusts or Open Ended Investment Companies (OEICs).
While you can hold individual company shares in an equity ISA, a fund-based ISA will be run by an expert fund manager who will pool investors' money and decide which companies and assets to invest in. The type of investments they'll make will depend on the aims and objectives of the specific fund (i.e. whether it's for income or growth – see below), and investors can either receive a form of income during the term of their investment or can wait until they cash in the investment.
The key difference between cash ISAs and equity ISAs is that the cash version holds onto your cash and pays interest, whilst an equity ISA actively invests your money into different external funds or company shares for the potential of bigger returns. The returns come from a combination of an increase in the value of the fund due to increased share prices, and dividend payments into the fund from the companies which the fund invests in.
A cash ISA is essentially the same as a traditional savings account without any tax implications. With this form of tax-free saving your deposits are held in a bank or building society account and are currently covered by the Financial Services Compensation Scheme (FSCS), up to a maximum of £75,000 per person per individual banking licence, and your capital is guaranteed.
An equity ISA, however, is not a savings account and should be viewed more as an investment product. It's a higher risk home for your money and there's a chance you could lose some or all of your initial investment, and there are also different rules regarding FSCS protection, with investors being currently covered for up to £50,000 instead of £75,000.
Equity ISAs are more complex than cash versions. There are a number of different products you can choose from and different funds you can invest in, but by asking yourself the following simple questions the process of making a decision becomes more straightforward:
Once you have answered these questions, it's time to think about the funds that are right for you.
Generally, investors have one of two goals – either to generate a regular income to supplement other payments (such as a pension), or to build a large value of investments for a particular use, i.e. to buy a dream holiday or send their child/grandchild to university. Generating income can be achieved by investing in income funds (denoted by the term 'Inc'). The fund manager will usually invest in assets that provide interest or dividends which will then be passed on to you as an income payment from the fund, or alternatively you can have this income paid back into your investment to buy more of that fund.
Generating growth can be achieved by investing in growth funds (also known as accumulation funds, denoted by the term 'Acc'). The fund manager will usually invest in assets that are expected to increase in value, perhaps through an increase in a company's share price or an increase in the price of commodities.
Once you have an idea of the sort of fund that will help you achieve your goals, you can start to research suitable funds.
In the year 2016/17 your ISA allowance is £15,240, which you can either split between a cash ISA, the new Innovative Finance ISA and an equity ISA in any way you choose, or you can invest the full amount into an equity ISA (or one of the others). You can now withdraw and replace funds you have invested in an ISA without the replacement funds being counted as part of your ISA allowance. However, this flexibility may not be appropriate for an equity ISA as money invested should be considered a longer term investment.
Investors choose fund-based investment ISAs for a number of reasons, with a few of their advantages being:
Of course, there are drawbacks to consider as well, with the disadvantages of this type of investment being:
But not if:
Any investment comes with an element of risk, particularly those with the prospect of higher returns, and it's important for any potential investor to understand them.
Over time there could well be fluctuations in the value of an investment with the total value and any income generated going down as well as up, and in a volatile market some investors may get back less than they put in. Past performance should never be seen as an indicator of future returns.
Disclaimer: This is a basic guide to stocks & shares ISAs. It does not cover every circumstance and nor is it intended to be a source of advice. This information is aimed at customers within the UK. Tax treatment depends on your individual circumstances and may be subject to change. Moneyfacts will not be liable for any loss arising from your use or reliance on this information. If you are in any doubt, Moneyfacts recommends you obtain independent financial advice.
Disclaimer: This information is intended solely to provide guidance and is not financial advice. Moneyfacts will not be liable for any loss arising from your use or reliance on this information. If you are in any doubt, Moneyfacts recommends you obtain independent financial advice.
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