Martin Lewis: Got a cash ISA? You should probably ditch it

Martin Lewis: Got a cash ISA? You should probably ditch it

Press the rewind button and go way back – before Covid, before Brexit – to April 2015, then picture a devastatingly handsome man at home, on the sofa, talking about money with his wife. Well, he has nowt to do with this, but possibly on the telly in the corner, I was on-air at the time urging savers as usual to use their new tax-free cash ISA allowance – because 'money was nicer in an ISA'.

Everything changed though in 2016, when the personal savings allowance (PSA) launched. It means:

  • Basic 20% rate taxpayers can earn up to £1,000 interest a year from any and all savings without paying any tax on it; after that their interest is taxed at 20%.
  • Higher 40% rate taxpayers can earn up to £500 a year; after that their interest is taxed at 40%.
  • Top 45% taxpayers don't get a PSA – all their interest is taxed at 45%.

This is a huge amount of tax-free interest for most. Even at today's standout top easy-access 1.5% rate from app-only bank Chase, you'd need nearly 70 grand saved to generate £1,000 interest. Which is why the vast majority of people – over 19 in 20 – don't pay tax on savings interest anymore.

All a cash ISA is, is a savings account you don't pay tax on

These days, the cash ISA's main boon is that interest from it doesn't count towards the PSA: it's still tax-free on top of that. That means for the few with savings (or earnings) big enough to break that limit, it's a winner, as they can protect more interest from tax.

You get a £20,000 ISA allowance each tax year and, crucially, money you put into an ISA stays tax-free year after year.

Yet for MOST, there's no benefit of saving in a cash ISA – so you simply should focus on getting the highest interest rate. Over the last few years, cash ISAs have tended to have WORSE rates than normal savings across all categories. At the time of writing...

Cash ISAs have WORSE rates than normal savings in all categories

  Top cash ISA
CLICK THIS LINK FOR LATEST RATES
Rates below are from 3 May 2022
Top normal savings
CLICK THIS LINK FOR LATEST RATES
Rates below are from 3 May 2022
Easy-access - Cynergy 1.05% - Chase 1.5%
One-year fix - UBL UK 1.5% - Jordan International Bank 2.15%
Two-year fix - Hampshire Trust Bank 1.91% - Jordan International Bank 2.5%

So most should DITCH cash ISAs for accounts that pay more

When I polled this on Twitter recently, I found 85% of the 9,000 who said they had cash ISAs don't pay tax on savings.

So why keep them? I know for years many had it drilled into them (often by me) that cash ISAs were nicer – but now people need deprogramming and to be pushed to just focus on the highest interest rates which come from top normal savings. Be brave, ditch the cash ISA and earn more.

However, there are a few niche reasons you may want to keep a cash ISA...

- If you're close to paying tax on savings. If you've a good whack of savings (many tens of thousands, say), so are close to the limit where you'll pay tax, then, as interest rates are likely to rise, keeping money in cash ISAs now can protect you from future tax.

Remember though: if you haven't used your cash ISA allowance for the current tax year, you can shift £20,000 in whenever you need (and another £20,000 in as soon as the next one starts), so if things look like they're changing, this gives you some instant 'reaction room' to change stance and get money back in ISAs at speed.

Based on current rates, keeping some savings in a cash ISA for this future-proofing still only looks worth it for higher 40% rate taxpayers, as the top current savings would still pay more than the top cash ISAs even after basic 20% tax is taken off (though of course the rate differential between savings and cash ISAs may change in future).

- You can withdraw from fixed cash ISAs (unlike normal fixes). There are big interest penalties for doing so, but if you could get a good cash ISA fix rate and wanted access in an emergency, they are more flexible.

While cash ISAs aren't much cop for most, other ISAs can be

If you're a first-time buyer aged 18 to 39, check out the Lifetime ISA. You can save up to £4,000 a year in it, and once it has been open a year, when used towards a qualifying first home (one costing up to £450,000) you get an unbeatable 25% boost on top. That means there's up to £1,000 a year of free cash. There are cons as well as pros though, so it's worth reading my full Lifetime ISAs guide.

And if you're looking to invest, a stocks and shares ISA does have actual tax benefits for many, unlike cash ISAs.

Claiming universal credit or working tax credits? Get a 50% boost

While not an ISA, just a quick final mention for the Help to Save scheme. This is designed to let those on low incomes save up to £50 a month, with a stonking 50% bonus paid after two years.

Crucially, the bonus is based on the highest amount you had in the account over that time – so imagine you put in £50 a month for 10 months, had £500 in there, but needed to withdraw it, then couldn't afford to put any more in. That's all fine and you'd still get a £250 bonus at the end (50% of the max £500 you had in).

A PS on inflation and investing

Inflation is currently far higher than any savings account will return (barring specialist Government schemes like Help to Save and LISAs), which means in real terms all savings are losing right now, as the purchasing power of money in those accounts is shrinking. This blog is exploring a narrow point – that of "if you've got savings, is a cash ISA the place you earn the most?" – as when inflation's high, reducing the amount your money is shrinking is crucial.

Yet there's also the bigger choice between saving and investing. I don't cover investing in detail, but please don't see that as me being against it. Investing is where, in order to get hopefully much greater returns, you are prepared to risk some of your capital.

If you're putting money away for the longer term, say five years or more, investing is something you may want to consider for some of your money. The hope is it will outperform any type of savings (though there is no guarantee). A good mixed balance of assets is useful. For more help, either get independent financial advice, or use one of the many good, legit investment sites out there.