ISAs won't encourage more people to save

The Government's proposals for a new tax-free Individual Savings Account (ISA) to replace PEPs and Tessas were unveiled this week. ISAs have been heralded as Labour's mechanism for promoting a greater savings culture among the less well-off in our society. Nic Cicutti looks at what they mean and how you can maximise the options available to you.

What are ISAs?

The Individual Savings Account is the replacement for personal equity plans (PEPs) and tax-exempt savings schemes (Tessas). It will be introduced in April 1999. As with PEPs, income paid from the ISA will be tax free.

Gains on investments inside the ISA will also be tax free, allowing your capital to accumulate. In addition, the Government is proposing to pay a 10 per cent tax credit on dividends from UK equities for the first five years of the scheme.

How does the ISA compare with a PEP?

At present, you can invest up to pounds 6,000 a year in a general PEP, which can include corporate bonds. Additionally, you may invest pounds 3,000 in the shares of a single company. Other than the annual allowance, there is no upper limit on PEP investments.

Tessas allow a maximum investment of pounds 9,000 over five years, pounds 3,000 of which can be tucked away in the first year, pounds 1,800 in years two, three and four, and pounds 600 in the final year. They allow withdrawals with loss of tax benefits. Follow-on Tessas, which began to be offered in 1996, allow a maximum investment in year one of pounds 9,000.

ISAs will allow a maximum investment of pounds 5,000 a year. This can be a mixture of cash, shares and even insurance policies (see below).

There is no minimum, unlike most PEPs, which demand regular savings of at least pounds 25 a month. The Government expects that supermarkets and similar outlets will be prepared to set up ISA accounts into which even a few pounds can be paid.

Is there an upper limit on funds I can stash in an ISA?

Unlike PEPs, there will be a cap of pounds 50,000 on the amount that can be placed in ISAs. This is without time limit: if it takes 20 years to reach that amount, fine. Or if starting from scratch, you can do it in 10 years.

What else is different?

Again, unlike PEPs, you will be allowed to place up to pounds 1,000 of that pounds 5,000 annual allowance into a cash deposit account, with instant access. Withdrawals will not mean loss of tax incentives.

It will also be possible for up to pounds 1,000 of the ISA's annual allowance to be in the guise of an insurance policy, so that they too enjoy tax- free benefits. This is aimed at friendly societies.

What will happen to PEPs when the ISA comes in?

It will be possible to transfer all your PEP holdings into the ISA. The transitional period in which this is expected to happen is between 6 April and 6 October 1999. Transfers are subject to the pounds 50,000 upper ceiling.

Will transfers be easy?

The details have not been worked out. But PEP providers, together with banks, building societies and supermarkets, will be expected to apply to become ISA providers. The Government believes they will want to effect transfers for free.

The theory is that, as with PEPs, providers notify the Inland Revenue of subscriptions made. Investors will not be required to declare income or capital gains arising from ISAs on their tax returns.

What happens if I do not transfer my PEPs into the ISA before the transitional period ends?

The consultative document implies you will be subject to tax on capital gains from the April cut-off point. Income from a PEP will also be taxed at your marginal rate.

What happens if I have more than pounds 50,000 invested in PEPs?

Sorry, the most you can shift into the ISA is pounds 50,000. The rest probably will be subject to tax from April 1999.

What happens if I have a PEP mortgage?

Lenders calculate that regular premiums of about pounds 166 a month into a PEP/ISA (equivalent to the pounds 50,000 limit over 25 years) will be worth pounds 125,000 at maturity, assuming growth rates of 9 per cent.

This may prove insufficient for homes in London and the South-east of England and takes no account of sharp falls in equity prices over that period. Of course, couples would be able to use a double allowance.

Should I still invest in PEPs?

Yes, especially if you are a higher-rate taxpayer. Tax exemptions will apply between now and April 1999, including dividends paid in this period and you will be able to transfer into the ISA, subject to the limit.

What about Tessas?

The Government says you keep your Tessa to the end of its five-year life. Thereafter, you can can transfer the capital from it into the ISA, but not the interest, subject to the pounds 50,000 cap.

Will I be able to keep on paying into the Tessa after April 1999?

We don't know. If you start one now, you will be able to put in up to pounds 4,800 before April 1999. One potential problem is that only pounds 1,000 of each year's contributions can be held in cash. This appears to suggest that most Tessa holders won't be able to keep all their funds in cash after transfer.

Will ISAs encourage a greater "savings culture"?

It's doubtful. Generally, saving money requires a surplus of income over expenditure. Telling someone they will get an extra pounds 5 a year (compound) if they save pounds 30 a month for a year is unlikely to be enticing if they don't know where to find the money for their gas bill.

Alexis Sanchez has completed a £35m move to Arsenal, the club have confirmed
sportGunners complete £35m signing of Barcelona forward
Poor teachers should be fearful of not getting pay rises or losing their job if they fail to perform, Steve Fairclough, headteacher of Abbotsholme School, suggested
voicesChris Sloggett explains why it has become an impossible career path
world cup 2014
Ray Whelan was arrested earlier this week
Arts and Entertainment
In a minor key: Keira Knightley in the lightweight 'Begin Again'
Arts and Entertainment
Celebrated children’s author Allan Ahlberg, best known for Each Peach Pear Plum
peopleIndian actress known as the 'Grand Old Lady of Bollywood' was 102
Wayne’s estate faces a claim for alleged copyright breaches
newsJohn Wayne's heirs duke it out with university over use of the late film star's nickname
Life and Style
It beggars belief: the homeless and hungry are weary, tortured, ghosts of people – with bodies contorted by imperceptible pain
lifeRough sleepers exist in every city. Hear the stories of those whose luck has run out
Mick Jagger performing at Glastonbury
Life and Style
fashionJ Crew introduces triple zero size to meet the Asia market demand
Santi Cazorla, Mikel Arteta and Mathieu Flamini of Arsenal launch the new Puma Arsenal kits at the Puma Store on Carnaby Street
sportMassive deal worth £150m over the next five years
Arts and Entertainment
Welsh opera singer Katherine Jenkins
musicHolyrood MPs 'staggered' at lack of Scottish artists performing
Life and Style
beautyBelgian fan lands L'Oreal campaign after being spotted at World Cup
Arts and Entertainment
Currently there is nothing to prevent all-male or all-female couples from competing against mixed sex partners at any of the country’s ballroom dancing events
Potential ban on same-sex partners in ballroom dancing competitions amounts to 'illegal discrimination'
Finacial products from our partners
Property search
Have you tried new the Independent Digital Edition apps?
Independent Dating

By clicking 'Search' you
are agreeing to our
Terms of Use.

ES Rentals

    iJobs Job Widget
    iJobs Money & Business

    Business Analyst Consultant (Financial Services)

    £60000 - £75000 per annum: Harrington Starr: Business Analyst Consultant (Fina...

    Systems Administrator - Linux / Unix / Windows / TCP/IP / SAN

    £60000 per annum: Harrington Starr: A leading provider in investment managemen...

    AVS, JVS Openlink Endur Developer

    £600 - £700 per day: Harrington Starr: AVS, JVS Openlink Endur Developer JVS, ...

    Technical Support Analyst (C++, Windows, Linux, Perl, Graduate)

    £30000 per annum: Harrington Starr: A global leader in trading platforms and e...

    Day In a Page

    A History of the First World War in 100 Moments: Peace without magnanimity - the summit in a railway siding that ended the fighting

    A History of the First World War in 100 Moments

    Peace without magnanimity - the summit in a railway siding that ended the fighting
    Scottish independence: How the Commonwealth Games could swing the vote

    Scottish independence: How the Commonwealth Games could swing the vote

    In the final part of our series, Chris Green arrives in Glasgow - a host city struggling to keep the politics out of its celebration of sport
    Out in the cold: A writer spends a night on the streets and hears the stories of the homeless

    A writer spends a night on the streets

    Rough sleepers - the homeless, the destitute and the drunk - exist in every city. Will Nicoll meets those whose luck has run out
    Striking new stations, high-speed links and (whisper it) better services - the UK's railways are entering a new golden age

    UK's railways are entering a new golden age

    New stations are opening across the country and our railways appear to be entering an era not seen in Britain since the early 1950s
    Conchita Wurst becomes a 'bride' on the Paris catwalk - and proves there is life after Eurovision

    Conchita becomes a 'bride' on Paris catwalk

    Alexander Fury salutes the Eurovision Song Contest winner's latest triumph
    Pétanque World Championship in Marseilles hit by

    Pétanque 'world cup' hit by death threats

    This year's most acrimonious sporting event took place in France, not Brazil. How did pétanque get so passionate?
    Whelks are healthy, versatile and sustainable - so why did we stop eating them in the UK?

    Why did we stop eating whelks?

    Whelks were the Victorian equivalent of the donor kebab and our stocks are abundant. So why do we now export them all to the Far East?
    10 best women's sunglasses

    In the shade: 10 best women's sunglasses

    From luxury bespoke eyewear to fun festival sunnies, we round up the shades to be seen in this summer
    Germany vs Argentina World Cup 2014: Lionel Messi? Javier Mascherano is key for Argentina...

    World Cup final: Messi? Mascherano is key for Argentina...

    No 10 is always centre of attention but Barça team-mate is just as crucial to finalists’ hopes
    Siobhan-Marie O’Connor: Swimmer knows she needs Glasgow joy on road to Rio

    Siobhan-Marie O’Connor: Swimmer needs Glasgow joy on road to Rio

    18-year-old says this month’s Commonwealth Games are a key staging post in her career before time slips away
    The true Gaza back-story that the Israelis aren’t telling this week

    The true Gaza back-story that the Israelis aren’t telling this week

    A future Palestine state will have no borders and be an enclave within Israel, surrounded on all sides by Israeli-held territory, says Robert Fisk
    A History of the First World War in 100 Moments: The German people demand an end to the fighting

    A History of the First World War in 100 Moments

    The German people demand an end to the fighting
    New play by Oscar Wilde's grandson reveals what the Irish wit said at his trials

    New play reveals what Oscar Wilde said at trials

    For a century, what Wilde actually said at his trials was a mystery. But the recent discovery of shorthand notes changed that. Now his grandson Merlin Holland has turned them into a play
    Can scientists save the world's sea life from

    Can scientists save our sea life?

    By the end of the century, the only living things left in our oceans could be plankton and jellyfish. Alex Renton meets the scientists who are trying to turn the tide
    Richard III, Trafalgar Studios, review: Martin Freeman gives highly intelligent performance

    Richard III review

    Martin Freeman’s psychotic monarch is big on mockery but wanting in malice