ISAs are great for many people but for those in cash, approaching or in retirement or falling into the ever-expanding IHT net better outcomes can be achieved, writes Les Cameron. And he’s got the stats to back it up…
I was perusing the ISA statistics from June 2020 the other day. Remember maxis and minis? And the allowance was £7,000 when launched back in 1999! It stayed there initially then started increasing by inflation in 2008. Two hefty jumps in 2014 and 2017 bring us to today’s £20,000 allowance.
Back in 1999 there were around 9 million subscribers, evenly split between cash and stocks and shares. Subscribers rose, peaking around 15 million a decade ago before falling to around 11 million. One trend though is the fact that the proportion subscribing to stocks and shares ISAs is falling with most subscriptions being made to cash ISAs.
In 2018/19 £67.5bn was placed into ISAs with more than £40bn in cash. Since 1999 the average ISA subscription hasn’t been over £6,500.
The latest value we have on ISA holdings is for 2018/19 at £584bn. Most subscriptions have been to cash ISAs but most holdings, 54%, are in stocks and shares. There’s around £15bn in cash in stocks and shares ISAs but it’s just a fraction of the overall £314bn held.
The statistics tell us the income, age, and gender make-up of the ISA holders too. And it’s mostly intuitive:
- around 40% of the population have one.
- higher incomes have higher average holdings. Averages “jump” at £50,000+.
- higher incomes are more likely you are to hold stocks and shares ISA. It flips from cash at £30,000.
- 1 in 5 subscribers pay £20,000. Higher incomes are more likely to, but over 10% of lower income subscribers (£0 – £50,000) pay in £20,000.
- Gender? Evenly balanced.
- Active savers fall as age increases. The under 25s are 66% active. The ages go up in 10-year tranches until you get to over 65 where the active savers are only 33%. The 35 to 65 brackets are around the 42% mark.
- The older an active subscriber is the higher the average value will be. Over 65s average around £49,000. But 17,000 under 25s hold over £50,000 and over 1.3m in the 45 to 65 age group.
- There are 5.5 million over 45s putting money in, 3.7million of whom are also over 55.
So, lots of people actively saving and lots of money held right across the age and income spectrum.
For the 2018/19 tax year it was estimated ISA tax reliefs cost around £3.3bn. It’s a nice tax-efficient (mostly) place to be. But does that mean no planning required?
Planning is about delivering client outcomes. Can better outcomes be achieved?
Based on the statistics? Yes! We just need to ask ourselves a few questions.
Accumulators or decumulators?
ISA accumulators entering the decumulation phase have the same issues as pension holders entering retirement. The older you are the less likely you are to be subscribing so, potentially a decumulator.
We know the investment process for saving up and taking out should be different, otherwise, outcomes could be compromised.
Are the funds suitable for decumulation? Decumulation has the additional risks caused by volatility and sequencing risk. Both are hot topics in the drawdown world. But these are issues related to disinvestment, not the tax wrapper. A Centralised Retirement Proposition should include decumulators regardless of tax wrapper.
54% of accumulated funds are in stocks and shares ISAs. The minority of subscribers hold most of the wealth. This illustrates the truism – if you invest your cash, you are likely to end up wealthier. Or cash is where your wealth goes to die! Not forgetting that past performance is no guide to the future of course.
Then there’s inflation risk. Cash holdings may be necessary for emergencies, short-term needs or to mitigate decumulation risks. Holding more in cash will see wealth fall in real terms. The best cash rate as I write is 0.6% for instant access (you can get up over 1% if you’re willing to fix for several years). The Bank of England’s CPI forecast is a touch over 2% for the next few years. So, at best, cash could be losing 1.4% per annum. The over 65s with larger pots, will probably have higher inflation as their “basket of goods” will be different to the younger ages – “silver inflation”.
I would imagine advised customers’ cash holdings reflect their needs as opposed to just sitting earning little and wasting a tax wrapper. But how do customers without advisers know they could be wasting their wealth and their ISA allowance?
Saving for retirement?
Many will be and may also be subscribing. Active subscribers fall as age rises. Due to people seeing retirement in sight? When access to pensions is in sight the access offered by the ISA is less valuable. Are they funding their pensions instead?
There will be some subscribers approaching and in retirement who simply cannot pay any more to their pensions for one reason or other.
If there’s no barrier to pension saving and you’re subscribing to your ISA with retirement in sight (or you’re in retirement) then are you spending your money wisely?
A basic rate taxpayer gets a 6.25% return from the pension tax system – pay in £100 get £106.25 back (due to the tax relief on entry and tax-free cash on exit). The return is higher where the difference between tax relief on entry and tax payable on exit widens.
The classic higher rate taxpayer now, basic rate in retirement pays £60 to get £85 back or a 41.66% return. That’s 7.39% after-tax per annum over five years. After inflation, this is a real return of over 5% in contrast to negative returns on cash ISA. This could be moving cash ISA to cash pension – no investment risk required.
Accumulated pots could be used to maximise pension contributions as retirement approaches. Using the same principle, someone with a £50,000 ISA pot could switch £10,000 per year into their pension which would see an ISA pot of £0 in 5 years’ time but a pension pot of £62,500. Higher rate taxpayers could receive £12,500 tax relief on top.
That’s £50,000 turned into £75,000. Are pensions ISAs that give better returns simply because of their better tax treatment?
Would you rather have 100% of £100 or 85% of £125?
One issue is convincing people it’s not too good to be true – that’s just how it works.
Decumulators in retirement?
In the same way accumulators can benefit from moving their contributions and accumulated funds into the pension system, “flipping” your ISA into your pension as you decumulate will maximise available funds due to the tax relief boost.
You can still pay in £2,880 per annum, without relevant earrings, right up to 75. The government tops it up to £3,600. A withdrawal in basic rate tax (again, allowing for tax-free cash) gives £3,060. This dual wrapper approach means higher income can be taken, income could be indexed, or existing income can be sustained for longer.
180 isn’t just a good score in darts, it’s also the extra income an ISA decumulator can generate by continuing to feed their pension into retirement (£3,060 – £2,880).
In the IHT net?
Accumulators and Decumulators alike have a tax-efficient vehicle but ISAs aren’t very tax-efficient on death if they come within the IHT net.
Less than 10% of ISAs are in shares so even if these were all AIM shares, and they won’t be, that leaves the vast majority in the ever-expanding IHT net.
There are many ways to reduce an IHT liability – from simple outright gifts to using trust to keep control of the money passing to the next generation. For the decumulators a discounted gift trust allows regular payments and IHT mitigation.
Paying 40% of all your ISA pot is worse than doing some trust planning and only paying marginal rate tax on your growth. Paying IHT on ISA assets is just a lack of planning.
It reminds me of another question – what happens to ISA millionaires when they die? Their families get £600,000 of course.
Can you do better with your clients ISA holdings?
ISAs are great for many people but for those in cash, approaching or in retirement or falling into the ever-expanding IHT net better outcomes can be achieved.
There is no no-risk investment and swapping inflation risk for a little investment risk should see better outcomes. But if you’d rather be in cash with inflation risk why not let some good tax planning generate your return for you?
Les Cameron is head of technical at Prudential UK