This piece first appeared in Sunday Herald on 4 March 2001
The text here may not be identical to the published text

Cash in on the tax-free eighth wonder of the world

Cash ISAs

Cash is coming back into fashion as stock markets around the world tumble. But cash ISAs are not only for investment – they can be used by anyone to earn some tax-free interest on their savings, even over the short-term.

Many people don’t realise that they can a save for a holiday or Christmas in a cash ISA. Unlike the old TESSAs there are no restrictions on how long the money stays there or how much you draw out – the interest earned is still tax-free. The only rule is that you cannot put more than £3000 IN to a cash ISA in any tax year. So if you have enough spare cash, you can tuck away £3000 now and another £3000 when the new tax year starts on April 6. Or you may just want to put in as little as £10. Once the interest is paid, that can stay in the account too, so it starts earning interest on itself. John D Rockefeller called compound interest the eighth wonder of the world. Tax-free it’s nothing short of a miracle.

Serious investors of course have a problem. They will want to put as much as they can into the stock market and bung the maximum £7000 into a maxi-ISA, which is all invested in shares. People who do that, cannot take out a cash mini-ISA. On the other hand, once you have taken out a cash mini-ISA you are barred for that tax year from taking out a £7000 maxi-ISA in shares. You will be confined to putting no more than £3000 into a shares mini-ISA. But most ordinary mortals would not put more than £3000 into the stock market in any one year – and for them mini-cash ISAs are brilliant.

It is a message that is getting through – since ISAs began in April 1999, nearly half of the £43 billion invested in the first 18 months went into cash.

Not only is the interest on a cash ISA tax-free, the rates of interest paid are generally higher than those paid on non-ISA accounts. For example the highest ISA rate at the moment is the 6.75% you can get on your first £1 with Smile (First Direct is fractionally higher at 6.85% but that falls to 6.35% on 22 March; Smile has already reduced its rates after the cut in base rates by the Bank of England in February). That rate is higher than the 6.7% you get on a regular Nationwide internet savings account (and Nationwide is ‘reviewing’ this rate after the February fall in interest rates)

Some small institutions may offer rates to compete with these – but they are often restricted to local people or existing customers. If you do not like internet or telephone banking, you will find rates paid on branch-based accounts are generally a bit lower. For example, from March 1, Bank of Scotland will offer 5.97% on £1 and 6.25% if you invest the full £3000.

But one way or another you should be able to get at least 6% tax-free interest on your savings – and that can’t be bad when the official interest rate from the Bank of England is 5.75%. It just shows how competitive the market for our savings is.

Once you start comparing rates for ISAs you will see that some conform to the Government’s so-called CAT standard. This rather daft acronym for Charges, Access, Terms is supposed to ensure that there are no nasty surprises hidden in the small print. For a cash ISA it means

· No charges for starting, stopping or changing your account.

· Access to your money in 7 days or less

· Minimum investment or withdrawal of £10 or less

· No requirement to take out any other product

· Decent treatment of customers in plain English

But CAT accounts are not necessarily the cream. A perfectly good account can be excluded simply because it demands 30 days notice or will only accept deposits or withdrawals of more than £10. Those restrictions may not bother you. However, the top accounts do mainly seem to achieve the CAT standard so there may be some peace of mind in going for those.

Ideally you should put the maximum £3000 into a cash ISA. For example, if you moved £3000 from one of the top internet savings accounts paying 6% into a top tax-free ISA paying 6.75%, your interest of £144 after basic rate tax would rise to £202, a gain of £58 over the year. And for a higher rate tax-payer the gain would of course be much more – nearly £95.

But even if you have more modest savings, or perhaps you are saving something each month for a holiday, for Christmas, or for that new sofa you have got your eye on, you would probably find that Gordon Brown was contributing a tenner or so towards the cost in the tax you save on the interest.

And of course with shares in the London stock-market back to the level they reached in October 1999, and markets in other parts of the world tumbling, your cash mini-ISA may come to seem like a very shrewd investment indeed. And it still leaves you free to take a risk and put up to £3000 each tax year in the shares ISA of your choice.

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4 March 2001

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