Tax-efficient investments: So what is the truth about ISAs?

A new investment system is set to replace PEPs and Tessas in April. By Rachel Fixsen
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Q: What is an ISA?

A: ISAs, or Individual Savings Accounts, are the new tax-free shelters for savings and investments. They will replace the existing system of Personal Equity Plans (PEPs) and Tax-exempt special savings accounts (Tessas). No income or capital gains tax is payable on the investments held in an ISA.

Q: When do they start?

A: On 6 April this year.

Q: What can I invest in an ISA?

A: Cash deposits, stockmarket investments and life insurance. The cash part could include bank and building society savings accounts, money market deposits, cash unit trusts and National Savings plans. Among investments allowed in the stockmarket part are listed shares, unit trusts, investments trusts, corporate bonds and government stock.

Q: How will it work, exactly?

A: As with PEPs and Tessas, financial services providers such as Abbey National or Marks & Spencer Financial Services will offer a range of ISAs. There are basically two types of account - maxi ISAs and mini ISAs.

Maxi ISAs can be used to hold all three types of ISA investment, and a single provider administers the whole lot. You do not have to hold all three types in a maxi ISA, but it must at least contain the stockmarket component.

A mini ISA is made up of just one component. You could go to a different provider for each component of your ISA, by having three mini ISAs.

Q: What will happen to my PEPs when ISAs supersede them?

A: After 5 April, you will not be able to invest in a new PEP or Tessa. If you already have a PEP, that investment will continue to exist until you cash it in, although you will not be able to invest any new money in it after 5 April.

Q: What about my Tessa?

A: If you already have a Tessa, you can carry on subscribing to it until it matures. Then you can transfer the capital, but not the interest, to an ISA. It can either be transferred into a cash component of a maxi ISA, to a cash mini ISA or a Tessa-only ISA.

Q: How much can I invest?

A: In general, you cannot invest as much in an ISA as you could in PEPs and Tessas. Limits are higher for 1999/2000 - the first year that ISAs will exist. Up to pounds 7,000 can be invested in equities and bonds, up to pounds 3,000 in cash and pounds 1,000 in insurance. After that, the annual limits will be pounds 5,000, pounds 1,000 and pounds 1,000 respectively.

Q: How long do I have to tie my money up for?

A: Unlike Tessas, where the capital has to be invested for five years for the interest to be tax-free, there is no lock-in period with ISAs. But providers will have their own terms. For instance, some may only give their best rates on investments that remain in place for a minimum length of time.

Q: What is a CAT-mark?

A: The Treasury has published a set of standards against which ISAs can be compared. Providers meeting this benchmark will be able to advertise their ISAs as "benchmarked".

The benchmark has been called the CAT-mark, because it is based on the Cost, Access and Terms of an ISA.

Q: Should I choose a CAT-marked ISA?

A: A CAT-mark does highlight certain aspects of an ISA which may be important to you. But just because an account is benchmarked does not mean it meets your particular needs. For instance, an index-tracking unit trust in an ISA might be cheap enough to win the CAT-mark, but it might be more volatile than an actively managed unit trust which had higher charges. Some investors might consider the extra cost worth paying. In addition, benchmarking does not mean that ISA is approved by the Government.

Q: I heard there was a lifetime limit on investment in an ISA.

A: In the original proposals there were plans to have a lifetime limit on the amount someone could invest in an ISA, but these have since been scrapped. There is no lifetime limit for individuals, and ISAs are guaranteed to run for at least 10 years.

Q: Can anyone have one?

A: As long as they are over the age of 18, and resident in the UK for tax purposes.