There are just a couple of weeks left to use up what’s left of your £20,000 Isa allowance for the 2020-21 tax year, before it begins on 6 April 2021.
While your Isa allowance will restart afresh at £20,000, you’ll lose whatever you didn’t use up the year before.
If you’re new to saving in an Isa, it can be hard to know what to do with your cash for the best. Investments can seem too risky, while the rates you receive for cash savings continue to fall.
Here, Which? reveals eight tips for how to use your Isa allowance to its full potential and grow your savings pot.
1. Opt for easy-access for emergency savings
If you don’t have any expensive debts, such as payday loans or expensive credit cards, any spare cash should be used to set up an emergency savings pot.
You should aim to build up enough emergency savings to cover at least three months of essential outgoings – this includes your rent or mortgage payments, bills and food costs.
This money should be stored in an account where you can make withdrawals whenever you like, so an instant-access cash Isa would be ideal. However, if you pay into a cash Isa for your emergency savings, you won’t be able to pay into any other cash Isas within the same tax year.
- Find out more: best ways to set up an emergency savings pot
2. Secure a higher rate with a fixed-rate bond
If you already have an emergency account and you haven’t yet paid into a cash Isa in 2020-21, you could consider locking some cash away into a fixed-rate account to secure a higher interest rate.
Fixed-rate deals can last between one and five years, and tend to offer high rates than instant-access accounts. For example, the top rate on a five-year fixed rate cash Isa is currently 1.15% AER, while the top rate on an instant-access deal is 0.5%.
While interest rates have been falling for some time now, and it’s hoped they will pick up again at some point, the current trend suggests they could still get lower. For instance, the average rate for a one-year fixed-rate cash Isa fell 0.04% in the past month alone, from 0.42% in February to 0.38% in March according to data from Moneyfacts.
If you lock in to a fixed-rate account now, you’ll protect your cash from any further interest drops in the coming months.
- Find out more: how to find the best cash Isa
3. Check if you qualify for any exclusive Isa accounts
Depending on your banking or savings provider, you may be able to access accounts with better rates that are reserved for existing members only.
For instance, Nationwide has recently launched a new cash Isa just for existing members with a market-leading rate, plus a £50 incentive, if you transfer more than £10,000 over to the new account.
Its 18-month fixed-rate Isa pays 0.75% AER, and those eligible to apply must have been a Nationwide member – ie hold a Nationwide current account, savings account or mortgage – on 16 March 2021.
- Find out more: how to transfer your cash Isa
4. Diversify with a stocks and share Isa
Stocks and shares Isas offer another use for your Isa allowance.
You can pay into a stocks and shares Isa in the same tax year as paying into a cash Isa, and using your Isa allowance in a mix of the two accounts can be a good way to maximise your returns.
In terms of your investments, it’s a good idea to make sure your portfolio is as diverse as possible and check that it matches the level of risk you’re comfortable with.
You should aim to hold a range of assets based in different regions, ideally with different fund managers.
- Find out more: how to find the best stocks and shares Isa
5. Try drip-feeding cash into a stocks and shares Isa
Investing little and often means you can more easily ride out any market fluctuations; you’re buying assets at different prices on a regular basis rather than buying at just one price with a lump-sum investment.
Setting up a regular payment plan is also a good idea when it comes to figuring out how to use your Isa allowance in 2021-22. It equates to £1,666.66 a month, or you can make smaller regular payments and top them up with a lump sum whenever you can spare it.
However, if you only plan to save into a cash Isa, the more you can put away early in the tax year the better, as your money will have a longer amount of time to benefit from compound interest.
- Find out more: Isa rules and allowances
6. Save your change even when spending on a card
If you struggle to save and you don’t think you have enough spare cash to make lump-sum savings each month, then building a pot via new ‘save the change’ features might work for you.
Many banking and finance apps offer this service, where any transactions you make on your card are rounded up to the nearest pound and the difference is put aside in either a savings account or cash Isa, or in some cases a stocks and shares Isa.
So say you buy a coffee for £2.50, the app would take £3 from your account and put the extra 50p aside. It’s likely you won’t miss that extra 50p, but it can soon add up over time, eventually building a healthier savings pot.
If your round-ups are linked to a stocks and shares Isa, adding cash little and often to your account also doubles as a form of drip-feeding.
- Find out more: 21 ways to make and save money in 2021
7. Consider a lifetime Isa for the 25% bonus
One of the easiest ways to get a decent bonus on your savings is opening a lifetime Isa. Each tax year, you’re able to pay in up to £4,000, which receives a 25% government bonus up to a maximum of £1,000, which is paid monthly.
So, if you open a lifetime Isa before 6 April 2021, you’d be able to pay in £4,000, and then another £4,000 after 6 April, boosting your savings by £2,000 in just a few days – and that’s before any interest or investment growth.
You can choose between a cash or stocks and shares lifetime Isa, and you can pay into either one of these in the same tax year as other cash or stocks and shares Isas.
However, there are a few caveats with this kind of account. First, you’re only eligible to open a lifetime Isa if you’re aged between 18 and 39.
Second, you’ll only be able to keep the government bonus if you use the money saved to buy your first home or after you reach the age of 60 – you can find out more about the penalties you’ll face for withdrawing for a different reason below.
- Find out more: lifetime Isas – should I get one?
8. Watch out for the fees and penalties
Unless you have an instant-access account that allows unlimited withdrawals, there’s likely to be some form of withdrawal penalty or other fee involved with taking money out of Isas that you should bear in mind.
First of all, if you’ve opted for a fixed-rate Isa, you should aim to wait until the term is over before accessing your cash. If you try to withdraw money early, you’ll usually get a penalty of 30 to 365 days’ worth of interest.
Making transfers from a stocks and shares Isa could mean paying exit fees – how much you’ll pay will depend on whether you opt for an ‘in-specie’ transfer (moving your investments to a new provider) or a ‘cash transfer’ (selling your investments and passing the proceeds to a new provider). Withdrawals are also likely to incur exit fees.
Last, you should consider the lifetime Isa withdrawal penalty. This is levied if you make withdrawals from the account for any reason other than buying your first home, once you’re over the age of 60 or have been diagnosed with a terminal illness.
As of 6 April, this penalty will return to 25% having been temporarily reduced to 20% since 6 March 2020. At 25%, this means not only do savers lose the 20% government bonus paid on their savings, but an additional 6.25% of their own money, too.