Here are some definitions which might be of use for this post.
Cash ISA (Individual Savings Account) – A type of savings account available to UK residents which allows a person to earn interest on the money saved in the account. A person does not have to pay any tax on the interest paid into this type of savings account. The total amount of money a person from the UK can put into an ISA each tax year (6th April – 5th April) is currently £20,000, this is known as the ISA allowance.
Interest – This is a payment a bank pays a person for storing money in the bank’s account. The amount of interest a person earns from the bank is determined by the amount of money a person has in the bank’s account and the rate of interest the bank is offering. This rate is usually a percentage of the value of the person’s bank account.
Personal Savings Allowance – This is the amount of interest UK residents can earn each tax year (6th April – 5th April) without having to pay tax. The level of allowance offered is based on a person’s tax status each tax year. People who earn £50,000 or less are basic rate tax payers and have a Personal Savings Allowance of £1,000, higher rate tax payers have a £500 allowance and additional rate tax payers do not have any Personal Savings Allowance. This allowance does not apply to interest that is paid which is already not subject to tax such as interest on a Cash ISA.
This blog post is not going to get you rich quick as I am going to be talking about a cash asset and cash assets have not been known to generate high returns. However in tough times every little boost to your savings can surely help. What I tend to see is that people will store their emergency money in a Cash ISA because the interest that someone earns on their Cash ISA and the withdrawals made from the Cash ISA are free from tax. This money would then sit there for a number of years until required at which point it can be easily accessed because it is just cash.
Unfortunately what we have seen is that interest rates are very low in the UK so what little return people were seeing from their Cash ISAs (which is a sort of bonus really) is virtually zero. Some people have also come to accept this situation as they believe that because they have funded the Cash ISA in a previous tax year, any withdrawals made from the ISA which are subsequently put back into the ISA would use up the current tax year’s ISA Allowance. This could perhaps hinder their savings strategy, which I will look to demonstrate:
Mary tries to save £1,000 into her Cash ISA at the end of each month. She has so far saved £40,000 throughout the years (go Mary!). This tax year (6th April 2020 – 5th April 2021) Mary sees no reason to change her savings strategy therefore she knows that she will use £12,000 of her £20,000 ISA allowance. Mary’s nephew, Fred, has had a financial emergency and he has asked to borrow £20,000 from Mary which he promises to pay back within 12 months. In May 2020, Mary withdraws £20,000 from her Cash ISA and gives it to Fred. This leaves Mary with £20,000 in her Cash ISA. Mary sticks to her savings strategy all year and in by the end of March 2021 she has saved £12,000 into her Cash ISA. Fred, true to his word, has sorted his emergency and now has £20,000 to return to Mary. However Mary can not return all of the £20,000 back into her Cash ISA as she only has £8,000 remaining in her ISA Allowance this tax year having just used up £12,000 of her ISA Allowance with her savings strategy.
This was the slight issue that people found themselves. However in April 2016 a new rule was announced regarding ISAs known as the Flexible ISA rules. This rule meant that a person could withdraw any amount from their ISAs which were previously funded over the years and as long as the money returned to that ISA in the same tax year it was withdrawn, it would not use up the current tax year’s ISA Allowance. This would mean that now Mary could return her money that she lent Fred to her Cash ISA as it was withdrawn and replaced within the same tax year. This would not affect her savings strategy.
So how can we take advantage of this….
Well considering some of the older Cash ISAs are only currently offering an interest rate of 0.25% per year (This is Nationwide’s Loyalty ISA for customers of more than 15 years), you may wish to withdraw that money and place it into another savings account which still allows you to have access to it in case of emergencies but just simply has a better rate. You would then need to make sure that you return your money that you withdrew from your Cash ISA in the same tax year. Please note that if you wished to also add the interest that you have made on this transaction into your Cash ISA, the interest will use up some of your ISA Allowance for the tax year.
Using the Money Savings Expert’s Top Savings Account post we can see that currently NS&I comes out top for easy access savings at 1.16%, just over 4.5 times better than Nationwide’s Cash ISA.
So let’s put this in action with Mary again, did I mention that she is with Nationwide….
Mary has her £40,000 and she is continuing to save diligently. If we focus on the money that she has already saved which is just sitting there then if she left her £40,000 in her Cash ISA with Nationwide she would earn 0.25% in interest. This would mean that her £40,000 would increase to £40,100 by the end of the tax year.
However if Mary withdrew her £40,000 from her Cash ISA and placed it with NS&I she would earn 1.16% in interest. This would mean that her £40,000 would increase to £40,464. Mary then withdraws her NS&I savings and returns it to her Nationwide Cash ISA in the same tax year which has not impacted her ISA Allowance for her savings strategy (aside from the £464 of interest that she earned if she adds that to her Cash ISA). Mary has made an extra £364 on her money by simply moving accounts for a short period of time.
As always there are some points that you should be aware of if you are interested in this:
- Not all ISAs have the Flexible ISA rules so please contact your provider to double check, you don’t want to be caught out on this one.
- Make sure you pick an alternative savings account which will pay your interest monthly and not after 12 months otherwise you may not return your money into your original Cash ISA in time.
- Any interest you earn outside of your ISAs in just a savings account is tested against your Personal Savings Allowance so if you earn interest that is greater than your Personal Savings Allowance you may have to pay tax on the excess.
I know that this is not the most glamorous way of making money but it requires very little effort and there is not a lot of risk involved. Which are qualities I want in my emergency money.