An investor who puts £5,000 each year into the UK stockmarket through an Individual Savings Account (Isa) could save £2,332 in tax over ten years, new analysis suggests.
This is because Isas offer protection from the taxman. An Isa is a tax shelter for investments, such as cash or shares.
For cash Isas, the savings interest is tax free. For “stocks and shares” Isas, investors don’t have to declare dividends or capital gains to the taxman.
Despite this generous perk some investors still hold shares or funds outside of the protection of an Isa.
Those investing greater sums than the £5,000-a-year example could be needlessly paying tens of thousands of pounds in tax.
The below table shows potential scenarios of the tax you might save by investing £5,000, £10,000 and £20,000 a year into the FTSE All-Share index through a stocks and shares Isa over ten years.
The scenarios rely on the FTSE All Share’s average return over the past 40 years, although always remember that past performance is not a guide to future performance. They also assume the portfolio owners are all higher-rate taxpayers.
“Portfolio 1” (£20,000 a year) would be worth £334,665 with dividends reinvested along the way.
If held within an Isa, the income from dividends and the gains made through any share price increases is protected from tax. Outside of the Isa, these taxes must be paid and for this portfolio (“Portfolio 2”), the tax bill would total £24,556.
The £10,000 a year portfolio (Portfolio 3) would save you £9,069 and the £5,000 a year portfolio (Portfolio 5) would save £2,332 in tax.
The analysis focuses on the new Isa allowance, which rises from £15,240 to £20,000 this week, but also takes into account that the dividend allowance for individuals, the amount that can be taken each year without paying tax, will fall from £5,000 to £2,000 from next April.
The combination of these factors from next year exacerbates the potential tax that could be needlessly paid.
The deadline for using this year's Isa allowance is midnight tonight (5 April). Investors will be handed a new annual allowance of £20,000 from tomorrow.
Investors should seek independent financial advice and tax guidance as there are other factors to consider. For example, existing investments must be sold to be put into an Isa which can trigger a capital gains tax liability. Tax rules can also change rapidly.
The numbers here merely serve to underline the wisdom of planning ahead and using all available tax allowances.
Please remember that the value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested
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