It seems hard to credit, but individual savings accounts (ISAs) are fast approaching their ninth anniversary. Introduced in April 1999 as a New Labour alternative to the previous administration’s personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs), ISAs have had an uneven development, caught between the Government’s opposing desires of encouraging private investors to save more and, at the same time, limiting the amount of tax revenue they give up in the process.
This is why so many private investors (over 17 million at the last count) have taken out ISAs. As far as the ISA investor is concerned, they are tax free. There is no liability to income tax or capital gains tax (CGT) on the proceeds of ISA investments. You don’t even have to mention them on your tax form.
Permanent advantages
Malcolm Cuthbert, head of financial planning at stockbroker Killik & Co, suggests that ‘By default, ISAs have now become a tax break for life as the Government has committed itself to them indefinitely. ISAs have been one of the most successful saving vehicles ever. They could have been even more successful had Gordon Brown not announced in 1999 that they had a limited shelf life of ten years. In our view, this uncertainty has held clients back from maximising their contributions to ISAs.’
This was one of a series of changes to the ISA regime announced prior to the 2007 Budget, but due to come into force from 6 April 2008, which will generally have the effect of making the ISA regime more flexible and more attractive to investors.
So what is the ISA scheme all about? The first point to make is that an ISA is not an investment, it is a wrapper into which investments can be put. It is individual in the sense that it is for private investors – there is no such thing as an ‘institutional ISA’ – who can invest, up to certain set limits, into one ISA each financial year. At the end of this period, their existing ISA can no longer receive new investments, but another ISA can be taken out for the new tax year.
The PEP scheme ran along similar lines, although it took time to evolve. Like ISAs, PEPs could only be taken out by individual investors, were limited to one a year, were subject to annual investment limits, could not receive further investment in the next financial year and were free of income tax and CGT liabilities.
Although ISAs replaced PEPs in 1999, existing PEP schemes could still be managed and retained their tax advantages. However, when the new ISA regime comes into force on 6 April, PEPs will effectively cease to exist. They will, instead, be automatically converted to ISAs and form part of an individual’s ISA portfolio. A similar process will convert the TESSA-only ISAs into which maturing TESSAs were put, into the standard-ISA portfolios.
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