Jun

7

what is an isa?

Filed Under investment, savings | 3 Comments

ISA stands for Individual Savings Account, a partial misnomer because whilst some ISAs are indeed savings accounts, others are not. An ISA is actually a wrapper round something else (a bit like a gift-wrapped present, the present is the more important thing).

An ISA can be one of two things

  • a savings account
  • an investment account

The sorts of ISAs that are savings account are called cash ISAs and they work in exactly the same way as any other savings account. You put in money, the bank / building society pays you interest and the capital is safe. 

There are only two other real features, one positive, one negative. Looking on the bright side first, any interest earned in an savings ISA is paid tax-free. On the downside, there is a maximum amount of money you may put each year into a cash ISA.

The sorts of ISAs that are investment accounts are usually called stocks and shares ISAs. Through these you can invest in unit trusts, exchange traded funds, bonds, individual company shares… These work in exactly the same way as other unit trusts, etc. You put in money, it is invested, the value may go down as well as up.

There are only two other real features, one positive, one negative. Looking on the bright side first, any capital growth in an stocks and shares ISA is paid tax-free. On the downside, there is a maximum amount of money you may invest each year into a stocks and shares ISA.

The limits to the amount of money that you may put in are currently as follows (financial year 2007-2008):

You may invest up to £7000 in total.

You may invest up to £3000 in a mini cash ISA and up to £4000 in a mini stocks and shares ISA.

Or…

You may invest up to £7000 in a maxi stocks and shares ISA.

There we go easy as pie.

May

23

understanding of inflation rising?

Filed Under savings | 1 Comment

According to an article in the Independent people have a greater understanding of inflation than they used to and so invest in ‘inflation beating’ savings from NS&I. Well that is good news, although I’m a little shocked at a couple of things in the article. Firstly that in the summer of 1975, inflation was running at 25%, and secondly that people who were around then might not have truly understood the power of inflation until more recently.

If people really were understanding inflation more, then who are using the savings accounts with the paltry levels of interest? Allegedly nearly half of all savings accounts on offer have interest rates below 3.5% - the amount needed to break even with inflation once tax is taken into account.

I think you need to take this figure with a pinch of salt. After all, this is measuring people’s savings understanding by the number of products offered to them, rather than by the amount of money saved within them. Hopefully, more money is saved in the better half of accounts than in the worse half.

From the point of view of mis-understanding inflation and compounding interest, I think that some of the worst products around are the guaranteed return bonds. I have no idea whether they are good products in themselves, but they a lot of them are marketed on their guaranteed return, as if its a really high return.

For example the Lloyds TSB Guaranteed Investment Account has a strap line of Enjoy a 15% guaranteed return with no risk to your original investment. Thats 15% over 5 years or as stated in the literature, 2.85% AER, which is barely covering inflation. To me, that’s a real risk.

Apr

4

five steps: step 3 grow an emergency savings account

Filed Under savings | Leave a Comment

This is the third in an irregular series on the five steps to solid wealth. Step 1 was spending less than you earn, step 2 was paying off consumer debt. Step 3 is to grow an emergency savings account. Its possible (and often recommended) to pay off consumer debt and grow a little emergency savings account simultaneously.

Firstly, the purpose of the emergency savings account is to prevent you from needing to pay to access money in an emergency. By paying to access money, I mean by using an overdraft, a credit card or a personal loan. Having an emergency savings account is likely to stop you sliding into more consumer debt if you have any. It will also generate some income for you in the form of interest if you store it in the right place.

The best location that I can think of for an emergency savings account is in a mini cash ISA. These grow tax free and make more money than regular savings accounts. Whatever sort of account you use, you want it to be earning interest over the rate of inflation (above 4% if you can get it) and you want it to be easy to access but not so easy you spend the money. I’ve found that internet accounts are the best in terms of access, but I have also used postal accounts, which means that it takes me a couple of days to get the money out. I would suggest avoiding accounts with a debit or cash card, as its all too easy to withdraw the money.

The amount of money you need to have in savings depends on the sort of emergency you are likely to encounter. If you lost your job unexpectedly, how long would it take you to find another one? If there was a sudden death in the family, how much would it cost to travel to a funeral and/or take care of their affairs? If the boiler broke in the middle of winter, how much would it cost to buy a new one?

At the moment, my emergency savings are at three months living expenses. This would cover me if one emergency happened, but I’m trying to improve it so that I would be ok if a couple of things happened at the same time. If you are just starting out, it might be easier to set a relatively low goal, say something like £500. In the event of an emergency, this would give you some breathing space before you had to find any more money.

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