Cash ISAs

Cash ISAs Explained

The main advantage of a cash ISA is its tax-free status, with returns and capital growth free from income and capital gains tax. This is important because the interest you earn from a traditional savings account may be subject to income tax; so, depending on how much savings interest you earn, up to 45% of this may be taxable.

In the 2024/25 tax year, the ISA allowance is £20,000. You can choose to use your ISA allowance in a cash ISA, a stocks & shares ISA, an innovative finance ISA, a lifetime ISA (which has a lower limit of £4,000) or any combination of the four, as long as you don't exceed the annual allowance.

This means that the most you can pay into a cash ISA in any tax year is £20,000; if you do this, you will not be able to put any money into any of the other types of ISA. 

Since the introduction of the Personal Savings Allowance in April 2016, which allows basic rate taxpayers to earn £1,000 of savings income tax-free (£500 for higher rate taxpayers), questions have been raised over the value of using an ISA for savings.

However, making use of their ISA allowance still makes sense for some savers. This is because:

1. The tax benefits in an ISA are cumulative, meaning you can shelter ever larger sums from tax year-on-year.
2. While the Personal Savings Allowance is currently adequate for most savers to avoid paying tax on their savings without using an ISA, should savings rates raise tax may become an issue. 
3. If the Government were to review the way savings are taxed in the future, the Personal Savings Allowance seems far more vulnerable to change than the more established ISA regime. It would be extremely difficult to justify the removal of tax advantages from money already held in ISAs compared to lowering or even scrapping the Personal Savings Allowance.

There is a wide variety of cash ISAs on offer, which mainly mirror the types of account on offer in the traditional savings market.

Easy access cash ISAs are probably the simplest type of cash ISA, as they allow instant access to your funds. While many easy access ISAs allow unlimited withdrawals, it’s worth noting that some restrict the number of withdrawals that are allowed.

Some easy access ISAs also include a short-term bonus which boosts their rate, usually for 12 months. Once the bonus period expires, it is important to check whether the ISA remains competitive, and potentially transfer your ISA if it does not.

Fixed rate ISAs tend to pay the best interest rates because providers are happy to pay more in return for knowing they will have the funds for a set amount of time. Terms usually range from six months to five years, with the longer the term agreed, the higher the rate of interest that is paid.

However, if the provider allows you to access your fixed rate ISA funds before the term expires, an interest penalty will normally have to be paid and the ISA may be closed.

If you want to put a smaller amount away each month, a regular saving ISA may be for you. In return for promising to put a minimum amount of money away on a regular basis, these accounts often pay a higher amount of interest. It should be noted, however, that missing a month or withdrawing the cash usually means the better rate will be lost.

If you are happy to give notice before accessing your ISA funds, notice ISAs tend to pay a higher rate of interest than easy access ISAs. Notice periods vary, but typically range between 30 and 180 days. Interest penalties for earlier withdrawals usually fall in line with the notice period.

That ISAs are accessible to almost all has also played a key part in their success. Anyone who is resident in the UK for tax purposes and aged 18 or over is entitled to open an ISA. Crown employees, such as diplomats or members of the armed forces, are eligible too, along with their spouses or civil partners.

You can hold a cash ISA, a stocks & shares ISA, an innovative finance ISA and a lifetime ISA all in the same tax year.

And, from 6 April 2024, you can open and pay into multiple types of the same ISA within the same tax-year. This doesn't apply to Lifetime ISAs or Junior ISAs.

For example, you can save into two cash ISAs in the same year, as long as the total amount you deposit across all your ISAs doesn't exceed the £20,000 annual ISA allowance.

This is likely to depend on the type of cash ISA you have and any rules that your ISA provider has for making withdrawals. With easy access cash ISAs, you can usually withdraw your money when you want to. However, with fixed rate cash ISAs, your funds are supposed to be tied up until the end of the fixed term.

In reality, several fixed rate ISAs will allow early access to funds, but an interest penalty will have to be paid. Similarly, while a notice period is meant to be observed if you have a notice ISA, some providers will allow earlier withdrawals on an interest penalty.

If your ISA is ‘flexible’, you can take out money then replace it during the same tax year without reducing your current year’s allowance. It should be noted, however, that ISA providers do not have to offer the ‘flexible ISA’ option, so you should always check with your provider first.

It is now possible for a surviving spouse or civil partner to inherit the ISA savings of a loved one when they die and continue to benefit from the tax-free benefits built up. This can be done using an additional, one-off ISA allowance, equal to the value of the deceased’s ISA holdings.

The ‘additional permitted subscription’ allows the survivor to re-shelter the assets in an ISA in their own name, without encroaching on their own ISA allowance for that tax year. Although inheritance tax (IHT) will still apply, transfers between spouses on death are IHT free.

Find out more about the rules on inheriting ISAs in our guide.

As long as the ISA is provided by a UK regulated bank or building society account, it is protected under the Financial Services Compensation Scheme (FSCS). This means that the first £85,000 of money saved with a particular financial institution is covered should the ISA provider fail.