ISA - Individual Savings Account Guide

An ISA is an Individual Savings Account. Introduced by the Government in April 1999, ISAs are a tax efficient method of saving and investing up to £7000 for individuals in the UK. Before ISAs, a similar system existed called PEPs.

There are three investing vehicles within an ISA wrapper: You may invest in Cash, Shares and Insurance. There are also two types of ISA: a Mini or a Maxi ISA, the difference being the amount and permutations of investment allowed in each of Cash, Shares and Insurance.

The government is trying to encourage individuals to invest in the stock market and as such you may use your entire ISA allowance of £7000 in each tax year for this purpose.

A Mini ISA allows an individual to invest up to the following amount in each investment vehicle for each tax year:

Cash£3000
Shares£3000
Insurance£1000

As you do not pay tax on your investments within the ISA wrapper, that means more money for you. There is no income tax on the investment, no capital gains tax on profits and no Income tax on share dividends.

The IFA-Guide strongly recommends using your ISA allowance.

Interest Rates
Interest rates hit a 40 year low in 2003 of 3.5%. This has not been good news for the savers amongst us as the interest rate is the percentage of an investment that an investor receives on a saving or the percentage of an investment that an investor pays to borrow money.

There are three terms associated with interest rates: AER, Gross, Net.

AER
The Annual Equivalent Rate specifies an interest rate taking into account set up fees, account fees and other costs. It is used as a method of comparing products such as mortgages and loans from different companies.

Gross
This is the interest rate before tax.

Net
This is the interest rate after tax.

PEP - Personal Equity Plan
PEP stands for Personal Equity Plan. In April 1999 PEPs were replaced by ISAs. A PEP is similar to an ISA in that it is a tax free investment. You could invest up to £6000 in each year. Although it has not been possible to start a new PEP since April 1999, you may still transfer an existing PEP.

TESSA - Tax Exempt Special Savings Account
TESSA stands for Tax Exempt Special Savings Account. In April 1999 TESSAs were replaced by ISAs. TESSAs are a 5 year investment strategy and as such it is still possible to own and contribute to an old TESSA account, although no new accounts have been available since April 1999.

You may pay up to £9,000 over a 5 year period into a TESSA account. This is provided the account is maintained for 5 years and that you withdraw no more than the interest on the account, subject to a deduction equivalent to lower rate tax, the interest is tax free.