Despite the advance warnings in the media, the Bank of England’s decision to ratchet up the official Bank Rate by half a percentage point in June was a move that still prompted a ripple of surprise.

Consistent increases over the past 18 months have now pushed the interest rate to a level that has not been seen since 2008 – a time when the world was in the midst of a financial crisis and today’s average first-time buyer would have been just 17 years old.

For many people, therefore, a world where interest rates are fixed above 1% is both unfamiliar and uncomfortable territory. Not only does inflation – the catalyst behind rate rises – continue to push the cost of living ever higher, but banks and building societies are also increasing the cost of borrowing. The net result is that many households face the possibility of an unwelcome jump in mortgage costs at the same time as they are grappling with weakened spending power.

In the face of this squeeze, those with cash reserves are understandably looking to make their wealth work as hard as possible and to get the maximum benefit from higher savings rates.

This can be seen in the fact that a net amount of £4.6bn was withdrawn from banks and building societies in May, according to figures from the Bank of England, which is reported to be the largest amount since records began. While some of this total will no doubt be directed towards higher household costs, billions are also being filtered into Individual Savings Accounts (ISAs) as investors look to take a tax-efficient approach to optimising returns.

A tax-efficient option

ISAs provide a highly tax-efficient wrapper for your wealth, with any interest, dividends or profits free from Income Tax or Capital Gains Tax. This benefit has been thrown into even sharper relief since the beginning of the 2022/2023 tax year, when the annual Capital Gains allowance was reduced from £12,300 to £6,000, and it will take on further significance in April 2024 when a further reduction takes this allowance down to £3,000.

In contrast, the rules around ISAs have been subject to little change in recent years. Indeed, the maximum amount of £20,000 that anyone can invest in an ISA each tax year has remained consistent since 2017. It also remains the case that unused allowance cannot be carried over, which means the tax-year end is often referred to as a ‘use it or lose it’ deadline.

Various options are open to anyone looking to invest their wealth in an ISA, and here we look at the two main types: cash ISAs and stocks and shares ISAs.

Cash ISAs

A cash ISA is effectively a form of savings account, with returns either based on a fixed or variable rate of interest. Because money is held in cash, a cash ISA can be regarded as a comparatively low-risk option. Furthermore, as well as any benefits being tax-free, they also won’t count towards your Personal Savings Allowance.

In recent years, historically low interest rates and the prospect of limited returns have dented the appeal of cash ISAs. This situation has only been exacerbated by the spike in inflation witnessed since the second half of 2021, which has eroded the real-terms value of money held in cash or lower-interest savings accounts over time. However, the Bank of England’s rate rises have pushed interest rates for cash ISAs to improved levels, prompting many people to reevaluate their potential.

Stocks and Shares ISAs

Stocks and shares ISAs differ in that they provide a wrapper for investing in the stock market, with any returns generated being free from taxation. It is important to note that this presents a higher risk than a cash ISA as the value of stocks can go down as well as up.

However, taking a long-term view of your ISA over a period of years can help to smooth market volatility. In addition, there are also a range of investment options available, including ready-made portfolios with differing profiles, which can help individuals balance their investment choices with their appetite for risk.

To truly spread your risk, there is the possibility of sharing your ISA investment over different types. There are no rules on how many ISAs you can have, although you can only open, and pay into, one ISA of each type every financial year. Furthermore, you must not exceed the ISA annual allowance, which is £20,000 for the 2023/24 tax year.

Whether an ISA is right for you will depend on your personal situation and your particular financial goals, but with many different options available, they can form a valuable part of your savings and investment strategy.

The information contained within this communication does not constitute financial advice and is provided for general information purposes only. No warranty, whether express or implied is given in relation to such information. Vintage Wealth Management or any of its associated representatives shall not be liable for any technical, editorial, typographical or other errors or omissions within the content of this communication.

You should be aware that the value of an investment can fall as well as rise and that investors may not get back the amount they invested.