What is a stocks and shares Isa?

Stocks and shares Isas

What is a stocks and shares Isa?

By Michael Trudeau

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What is a stocks and shares Isa?

Stocks and shares Isas offer the possibility of higher returns than cash Isas, but only if you're happy to take some risks with your savings.

While a cash Isa is simply a tax-free savings account, a stocks and shares Isa is a tax-efficient investment account that lets you put money into range of different investments, including unit trusts, open-ended investment companies (Oeics) and investment trusts, as well as government bonds and corporate bonds. 

You can also buy individual company shares and put them into your Isa. 

So, unlike with cash Isas, you should only invest if you're prepared to take the risk that your investments can go down, as well as up, in value.

Find out more: Understanding investment risk – how to make sure you take the right level of risk for you.

How much can you invest in a stocks and shares Isa?

During the 2016/17 tax year, which runs from 6 April 2016 to 5 April 2017, you can place up to £15,240 into an Isa. This allowance will rise to £20,000 in April 2017.

It is possible to split your Isa allowance between several different types of Isa 'wrapper', including cash and stocks and shares, using whatever balance you prefer. The ratio of cash to stocks and shares is up to you. From April 2016, you can also put money into an 'innovative finance' Isa for peer-to-peer loans, although there are very few such products available at time of writing.

Find out more: Stocks and shares Isa providers – our unique ratings for the top fund supermarkets.  

The tax advantages of stocks and shares Isas

The tax advantages of stocks and shares Isas can be significant, especially if you're a higher or additional-rate taxpayer. 

Stocks and shares Isas: tax advantages for basic-rate taxpayers

Dividend income: If you buy shares, or collective investments, such as unit trusts that invest in a portfolio of shares for you, you're likely to receive dividends. Previously, these would be paid with 10% deducted at source. It's not possible to reclaim this tax, which is why it was not quite true to say that stocks and shares Isas were 'tax-free'. Starting in the 2016/17 tax year, the 10% deduction was abolished. Instead, investors receive a £5,000 allowance, meaning that the first £5,000 of dividend income will be tax-free. After this, dividends will be taxed at 7.5% for basic-rate taxpayers.

However, any investments kept in a stocks and shares Isa will avoid tax on dividends altogether.

Because the first £5,000 of dividends are paid tax-free regardless of whether or not they are inside an Isa, this removes one of the advantages of a stocks and shares Isa for anyone who earns less than that in dividends in a given tax year. In fact it's likely you would have to have more than £100,000 invested before you began to exceed this amount, although dividend yields can vary.

Capital gains: Any capital gains you make from investments in a stocks and shares Isa are tax-free. However, everyone in the UK has an annual capital gains allowance, which is £11,100 for the 2016/17 tax year, so a stocks and shares Isa will only offer a capital gains tax benefit if you realise gains in excess of this allowance in a single tax year. And keep in mind that capital gains are only payable when you sell your shares, not if they simply increase in value.

Interest: If you invest in interest-bearing investments, such as corporate bonds and gilts in your stocks and shares Isa, interest is paid tax-free, meaning a saving of 20% tax for a basic-rate taxpayer.  

Stocks and shares Isas: tax advantages for higher and additional-rate taxpayers

Dividend income: If you earn dividends of more than £5,000 from your investments outside an Isa, you will pay tax of 32.5% if you're a higher-rate taxpayer and 38.1% if you're an additional-rate taxpayer. You can avoid having to pay this if your assets are within an Isa wrapper.

Capital gains: For higher and additional-rate taxpayers, the capital gains tax benefit is the same as for basic-rate taxpayers.

Interest: If you invest in interest-bearing investments, such as corporate bonds and gilts in your stocks and shares Isa, interest is paid tax-free, meaning a saving of 40% for a higher-rate taxpayer and a saving of 45% for an additional-rate taxpayer.

Find out more: Tax on savings and investments – the comprehensive Which? guide.

Charges for investing in a stocks and shares Isa

The costs of investing within a stocks and shares Isa will vary, depending on what you invest in and which provider you use, but charges aren't usually any higher than those you'd pay if you invested outside an Isa.

Many investors who are happy to make their own investment decisions without advice opt to use a fund supermarket for their stocks and shares Isa investments. These services, which allow you to access a vast range of investments, levy either an annual percentage charge based on the value of your investments or a fixed fee in pounds and pence.

Some of the investments that you might place into a stocks and shares Isa, such as unit trusts and Oeics, also come with ongoing charges.

Transferring between stocks and shares Isa providers 

You are able to transfer your previous years' cash Isas into stocks and shares Isas without affecting your current year's Isa allowance. You can also transfer your current year's cash Isa to a stocks and shares Isa, provided you transfer the whole amount.

If you already have a stocks and shares Isa and want to transfer it to a new provider or convert it to a cash Isa, you can do so, but you'll need to contact your new provider and complete a transfer form.

Find out more: Stocks and shares Isa transfers – how to move your Isa to a new provider

  • Last updated: December 2016
  • Updated by: Michael Trudeau