A Tragic Waste Of The Taxman's Money

Published in Investing on 25 July 2011

When it comes to ISAs, people just don't seem to want the taxman's money.

I've just been looking over HM Revenue & Customs' ISA statistics, both historical and the latest figures for the year 2009-10.

And I'm struck by two things. Firstly, it's great to see some fantastic growth, both in the number of people subscribing to ISAs and the amounts being invested. But it's also disappointing to see that the numbers are still quite some way from the maximum potential benefit we could be enjoying.

It's also a little sad to see how few people of late have chosen to put their money into a shares ISA, missing out on the best performing long-term option there is.

Back at the start

ISAs were first introduced on April 6, 1999, replacing PEPs and TESSAs, and were intended to appeal to a wider range of people than those previous tax-exempt investment schemes -- people tended to think, for example, that investment in shares was only for middle class people and the seriously wealthy. Sadly, that's an attitude that's still with us, thought it's quite wrong. Anyone who is able to save just a few tens of pounds a month can invest.

Things were complicated a little back then by the existence of mini-ISAs and maxi-ISAs, but the total investment limit stood at £7,000. And how much of that total allowance was actually used up in that first year?

Of all of the eligible adults in the UK, there were only 9.3 million ISAs opened -- and with the options of having both cash and shares ISAs, the actual number of people subscribing was less.

And of the £7,000 maxi-ISA contribution limit, the average amount invested was just £4,600, with a total of £28 billion pounds invested in all kinds of ISAs. One thing that was encouraging was that £16 billion of the total went into shares, with just £12 billion in cash.

What about today?

Fast forward to the 2009-10 ISA year, the latest for which we have the figures, and we see very pleasing increases in the numbers. That year the allowances were a bit strange, starting the year at £7,200 -- barely upped since the very first year. But from October 6, people over 50 had their limit boosted to £10,200 (and since then, allowances have gone up with inflation, to reach this year's £10,680 limit).

And we saw a total of 15 million ISAs being opened during the year, attracting a total investment of some £45 billion, which is a very welcome increase -- though that's still way short of the maximum we could have invested.

And of that total, only £12.5 billion actually went into shares, considerably less than a decade previously, with the remaining £32.5 billion going into cash. 

Sure, in 2009, people were about as keen on the stock market as a dose of plague. But in April 2009, the FTSE 100 was around the 4,000 level, and today it stands nearer 6,000 -- that's a rise of nearly 50%, and a huge opportunity missed by those who put their ISA allowances into cash.

Missed opportunities

Now, it's unrealistic to think that every eligible person in the country would actually have had several thousand pounds free to invest. But if we just consider working people, of which there would have been somewhere around 35 million, and guess at a weighted average allowance of £8,000, the total countrywide ISA allowance would have added up to £280 billion -- more than six times the amount actually invested.

Think people didn't actually have that much to invest? Well, according to a 2010 Halifax report (PDF) in 2009 the people of the UK had a total of £1,150 billion in deposit-based savings. OK, that wasn't all eligible for ISAs, as much of it would have been savings of people who had considerably more than their ISA allowance.

But with that amount in total savings, surely the cash that people could have put into ISAs was a good bit more than the £45 billion that actually went in -- and far fewer than half of the eligible population put anything at all into an ISA.

That's why HM Revenue & Customs can afford to allow us what is actually quite a generous tax-free investment limit -- because they know we'll only use a relatively tiny amount of it.

So what are the lessons from all of this? I think they're simple -- use up as much of your ISA allowance as you possibly can, and invest it for the long term in shares.


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alsirat 25 Jul 2011 , 9:06am

I have struggled on occasions in seeing the benefit of a shares ISAs in all scenarios which may explain why some people don't bother. The answer is fairly straightforward for higher rate taxpayers (Or is it? Would I be better off putting the money into my occupational pension scheme?) but for basic rate taxpayers is the decision quite so simple? The fees charged for holding shares in an ISA seem to mitigate the benefits (no doubt there are ways around this but no mention is made in the article). And those benefits for basic rate taxpayers seem to stretch some way into the future -tax benefits on future capital gains after taking account of tax allowances and in some cases age- related tax allowance financial benefits. Also would it be better for a basic rate taxpayer to hold corporate bonds in an ISA rather than shares? It would be useful to see the pros and cons set out. Am I missing something or are there nothing but benefits with shares ISAs?

DIYIncome 25 Jul 2011 , 9:25am

There is an additional benefit of ISAs that is not usually reported - calculations of tax credits (and some other benefits) exclude ISA holdings. This means that - for example - someone with children can have a lot of money invested in ISAs but as long as their other income is low they can receive Child Tax Benefit. Bizarre.

UrbanDreamer 25 Jul 2011 , 10:00am

As well as Child tax benefit money held in ISA's is not taken into account when calculating age related allowances or pension top ups. You can also access the money when you like.

For example had a young woman maxed her PEP allowance in the 80's and continued until now investing in ISA's she could probably retire. Unlike the situation were she to have taken out a personal pension in the 80's intending to retire at 50 and invested the same amount.

It should also be pointed out that CGT does not depend upon your rate of income tax nor is it index linked. If you buy shares outside of a tax wrapper (ISA or pension) then you will need to keep an eye upon your gains and work to mitigate any CGT liability which could occur simply due to inflation.

BLH1936 25 Jul 2011 , 1:12pm

Cash ISAs are a waste of time because all the financial institutions offer lower rates and I can earn just as much, if not more, by moving cash holdings around the best taxable accounts on offer - and there are plenty to choose from.

Equity ISAs are no longer attractive since prudent Gordon removed the tax rebate on dividends, unless you intend to cash in a large amount at some time in which case your ISA will protect you. But few people intend to do that - at most they will drip feed capital withdrawals after they retire.

Bonds? Well their pricing reflects current low interest rates and are likely incur a capital loss at some time giving a redemption yield no better than a cash ISA!

So it is hardly surprising that many serious investors do not find ISAs attractive.

econ103 25 Jul 2011 , 1:32pm

I like ISA's.
I would like the Government to make them an alternative to a conventional pension.
My suggestion is to ring fence the money invested in an ISA so that it is protected, like a pension , from bankruptcy.
This would be very useful to unincorporated small businesses and encourage entrepreneurship.

Curvedair 25 Jul 2011 , 1:45pm


Since June 2010, CGT is affected by your rate of income tax. As far as I understand it :

An individual currently has an annual CGT exemption of £10,100 after which any gain is added to your taxable income to calculate CGT payable.

If the total of the above calculation puts you into the Higher Rate bracket for Income Tax then any gains above that threshold are taxed at 28% and 18% for those below it.

I haven't explained it very clearly but it is my 1st post.....

propolis 25 Jul 2011 , 2:36pm

I like ISA's because (unless some future government changes the rules retrospectively) I can take a tax free income from them. I am hoping one day to be able to take a 4% pension from the pot without it devaluing too much.

UrbanDreamer 25 Jul 2011 , 2:45pm

Thanks Curvedair, I can look up the changes now that you have pointed them out.

My point was with respect to the statements questioning ISA's for standard rate tax payers. The benefits are small and few, but that is not the same as saying that they don't exist. Indeed your point about CGT underlines one that I had not previously considered.

Over decades large capital gains can build up within a portfolio, even if you are a standard rate tax payer. It's not that difficult to avoid them. You must simply keep track of gains and pay to crystallize some on a regular basis. Alternatively you could simply use a ISA, stop worrying about it, and pay a management fee, which is what I do.

Curvedair 25 Jul 2011 , 4:35pm


Thanks for your reply.I agree entirely with your points about ISAs for standard rate taxpayers. With the spread of low cost online nominee accounts, the charges for holding shares in ISAs are much reduced (zero in some cases) so it makes more sense to have them imo.

I have now finally moved my ISA shares to an online account and am now paying no admin fees. My original broker did charge me an arm and a leg to move them mind you but it was worth it. It is much easier and cheaper to trade them online too. That was the main reason why I was put off equity ISAs/PEPS for years.

The CGT rule change means that any income from an ISA doesn't of course count towards a CGT calculation (or income tax calculation come to that) so they have a small benefit in that respect too.

Benatar 25 Jul 2011 , 5:34pm

ISAs are supposedly tax free.

Most Equity ISAs charge a management fee, which carries VAT.

When will the government make ISAs truly tax free?

rober00 25 Jul 2011 , 5:50pm

For me the benefit of Isa's are that the dividends payable are tax free. If you have a large dividend income then this can radically affect the point at which you enter the higher tax bracket.

Believe me this is not insignificant over time!!

rober00 25 Jul 2011 , 5:54pm

Sorry, I did not mean tax free, I meant is not added to your total taxable income for the purposes of determining your tax rate .

jaizan 25 Jul 2011 , 10:41pm

Income taxed at higher rate can go to the pension fund.

Income taxed at normal rate can go to the ISA, to bring forward the date of early retirement.

Once the annual ISA allowance is exceeded, income taxed at normal rate can be invested in AIM stocks (not eligible for ISAs) or in anything with a good prospect for capital gains (more than dividends).

pollnagorm 25 Jul 2011 , 11:17pm

At least you have something in the UK, I trade from Ireland and there are no such schemes, CGT is 25% with a tax free allowance of only € 1,270 Include exchange rates in this for UK / foreign trades and you find it very difficult to make gains.
Ireland is years behind the UK in empowering people to use secondary streams of income, starting a business etc.

alsirat 26 Jul 2011 , 9:03am

Having read the comments above I still cannot see a convincing reason for most people to invest in an ISA.

BLH1936 above says "Cash ISAs are a waste of time because all the financial institutions offer lower rates and I can earn just as much, if not more, by moving cash holdings around the best taxable accounts on offer - and there are plenty to choose from." So forget cash ISAs, the financial institutions are running off with your tax benefits.

On Equity ISAs, posters above seem to suggest that you can draw a tax free income later on. Really? Perhaps if you are higher rate taxpayer there is a benefit. If you are a basic rate taxpayer does that apply? People in retirement are likely to be drawing the income from their ISA. The vast, vast majority will only pay basic rate tax, see ONS data on pensioner incomes. There is no extra tax to pay on dividend income outside of an ISA if you are a basic rate taxpayer. True? So why put your money in an ISA in the first place and incur the management fees of the ISA provider?

Which brings me on to the capital gains tax benefits of an ISA. If you are investing for the dividend income in retirement are you bothered about the capital gains? If you are, then there is the annual tax free allowance. Unless of course you are a really big player which most people are not.

So what are the benefits of an ISA for most people as I'm confused?

snowylewis 26 Jul 2011 , 9:45am

Alsirat - all your comments are spot on. With a CGT allowance of £10,100 pa for an individual and of of course £20,200 for a couple then using the allowance every year stops gains building up in all but the biggest portfolios. If of course if you have a bad year and suffer losses you can also crystalize these outside an ISA. Money in an ISA cannot set off losses as I found to my cost when I sold a property and paid CGT and could not reduce this because my loss making shares were in an ISA.They are not tax free on equity income because of Browns raid on the tax rebate on dividends. I continually see non taxpaying old folks sold Cash ISAs by there banks at a much lower rate than the same banks R85 certified accounts.
Forget ISAs they have been tax neutralised for most people for are still being sold on illusionery benefits.

casablanca48 26 Jul 2011 , 10:58am

Glad to see that so many contributors have caught on to the great ISA scam. The standard rate tax payer saving £100 or £200 a month wil be very unlikley to save any tax by having an ISA,
The intensive markeing of them is really just a ploy to charge excessive management fees to the financially unaware.

ScottishPound 26 Jul 2011 , 3:11pm

Cash ISAs really are a waste of time, and worse than that, the tax free benefits effectively go to the financial institutions offering the cash ISAs!!!

They should offer ISA rates that are competitive with the gross taxable rates offered on other accounts, but they consistently offer ISA rates closer to 80% of the gross taxable rates, so the main beneficiaries of Cash ISAs are the financial institutions themselves.

JeremyBosk 26 Jul 2011 , 6:33pm

The one thing ISAs do not provide exemption from is the calculation for unemployment or other social security benefits. If you are unlucky enough to have more than £16,000 of any kind of savings including ISAs, you must spend them before qualifying for benefit. Since government policy is currently designed to create mass unemployment an undeclared collection of gold coins or stamps is the only way to preserve wealth. Of course that is illegal so you definitely should not do it even if redundancy is staring you in the face. Beggary is good: ask Osborne.

NEILLCAU01 26 Jul 2011 , 9:33pm

Some possible reasons as to why basic rate taxpayers are not investing in a stocks and shares ISA:
(1) The tax credit on dividends is not added back to the dividend received within an ISA. Once upon a time it was.
(2) The annual allowance for capital gains is sufficient to absorp most people's gains.
(3) Many investors have losses carried forward through the disposal of banking shares once considered stalwarts- RBS, Lloyds,the former HBOS etc. Hence again the ISA tax shelter is not required.
(4) Why pay charges if either there is no tax benefit or the CGT benefit is not needed?
(5) Events such as the near banking collapse and the travails/reputational damage of other former stalwarts such as BP have shaken many people's confidence in shares.

ANuvver 27 Jul 2011 , 3:05am

Me again.

Oh ISAs...

Thanks to all above for insights, opinions, et al. Still digesting a lot of this.

Regarding management charges - I know of at least one SSISA provider that doesn't do this.

There are lots of uses for an ISA.

If you're an old cowpoke with a huge herd, keep selectively "bedding" bits in. If you're in the "prime of your life" park a "the next underwater toaster" stock and laugh or shrug. If you're earning scads, put bonds in it and HMRC can go whistle. If you're starting out, stuff it with REITs or a gross dividend payer and enjoy the warm feeling of the extra 10%.

Or a combination of all.

As for Cash ISAs, I'd rather remove a portion of my own gall bladder through my ear using twine and spoons. Without anaesthetic.

ianaharris100 28 Jul 2011 , 5:32pm

some on-line self-select ISAs are fee-free, and alow you to choose your investments, excluding AIM. Apart from the usual advantages, a huge advantage to my mind is that you don't have to include them in your tax return! SIPPs are more tax-efficient, in that you get tax added, but have the disadvantage that you cannot access them until age 55, and then the whole thing is so hedged about with rules and regulations that you really lose the will...

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