Is a Cash ISA the right option for your long term savings goals?

By Helen Tandy

In this article, ethical financial adviser Helen Tandy explains why a Cash ISA might not be the best option if you are using the money for long term plans, when to take advantage of a Cash ISA and when you should consider switching to a Stocks & Shares ISA.

 

Clients often ask us how to get the best out of their Cash ISAs (Individual Savings Accounts) and what to do about significant amounts they've built up within them. 

What frequently starts out as a small emergency fund or some short-term savings, can end up being a sizeable nest egg after a few years, that simply sits there for years not doing very much. And with fixed rate Cash ISAs offering well over 4% it may have felt like a relatively safe place. But is a Cash ISA the right option for your savings goals or is there a better way to manage them over the long-term?

What is a Cash ISA and what do I need to consider?

Cash ISAs are the most common form of ISA in the UK. In fact, more than 60% of the adult ISA accounts subscribed to in 2022 to 2023, were Cash ISAs*. A Cash ISA is a tax-free savings account that allows you to earn interest without paying income tax on that interest.  

There are different types of Cash ISAs, such as easy access, fixed-rate, or regular saver, depending on your needs and how much you need to access your money.

The UK government evened out the allowance for Cash ISAs and Stocks and Shares ISAs in 2014, and by  2017, the combined amount you could contribute to ISAs has been £20,000 . This means you can pay up to £20,000 each tax year into a Cash ISA, the main benefit being that all of the interest earned is tax-free - 
However, there are some important considerations to bear in mind, such as:

  • Low Interest Rates - although we have seen high interest rates due to high inflation, we are starting to see the tables turn. Over the long-term Cash ISAs will generally provide lower interest rates than inflation, resulting in your funds losing value in real terms.
  • Inflation Risk – If inflation is at the Bank of England’s 2% per year target, but your Cash ISA is only paying 1%, then you're effectively losing 1% per year in real value. Despite inflation being higher than target currently, we could see the rates on Cash ISAs return to the very low levels we are used to. For example, in March 2018 Nationwide launched a ‘market leading’ Loyalty ISA at a rate of 1.4%. In May 2022 its 1 Year Triple Online ISA was still very low at 1%.
  • Reform - There have also been discussions about reforming Cash ISAs. Some proposals suggest capping the amount that can be saved in Cash ISAs annually, potentially reducing it from £20,000 to £4,000, to encourage more investment in stocks and shares. While no changes have been implemented yet, there is much speculation that there could be changes announced in the Autumn Budget.

In summary, Cash ISAs are useful when you need access to the money in the short term or if you want absolute protection of your capital.

if the money is being put to one side for your long-term savings goals, e.g. possible retirement then there may be more suitable alternatives to consider

They can also be a good place if you are building up emergency savings or for a short-term purpose, but if the money is being put to one side for your long-term savings goals, e.g. possible retirement then there may be more suitable alternatives to consider.

Is a Stocks & Shares ISA a suitable alternative to a Cash ISA?

If you are planning for long term goals for five years or more, and you can afford to risk potentially losing some of your money (because of stock market movements), then a Stocks & Shares ISA may be a viable alternative to a Cash ISA.

A Stocks and Shares ISA is a simple, tax-efficient way of investing in the stock market. It enables you to put your money into stocks and shares, funds, bonds, and other assets, and you usually don’t pay UK income or capital gains tax on any of the returns you make on it.

However, the rate of return you receive will vary, depending on how the investments in your ISA perform, as the value of your investment can go down as well as up, so you might not get back the amount you put in.
You can save up to £20,000 per tax year in a Stocks and Shares ISA account, or split the allowance across some or all of the other types of ISA.

Can I transfer a Cash ISA to a Stocks and Shares ISA?

Yes, you can transfer some, or all, of the money from your Cash ISA from the same or previous tax years into a Stocks and Shares ISA. You won’t lose any tax benefits on the money you transfer. And transferring any amounts saved in previous years won’t count towards your annual £20,000 ISA allowance.

So for example, if you paid £10,000 into a Cash ISA and then (in the same tax year) transferred it to a Stocks and Shares ISA, you would still have only used up £10,000 of that year’s ISA allowance.

However, don’t close it yourself, speak to your adviser and they can help you to complete a formal ISA transfer form to ensure the funds don’t lose the tax-free status.

Which is the best ISA option?

This depends on your financial goals and your approach to risk & reward. If you’re only looking to invest your money for a short period of time (one to five years), then a Cash ISA may be a suitable option for you. With a Cash ISA, your gains will be capped at the interest rate offered when you opened the account. Certain Cash ISAs also lock your money away, or offer a lower rate of interest for 'instant access'.

If you opt for a fixed-rate ISA, you can transfer your money out of the account once the specified period ends. If you then choose to reinvest in another Cash ISA, available interest rates may have fallen, meaning your savings will earn less.

If you’re interested in longer-term growth, then a Stocks and Shares ISA may be more suitable. With a Stocks and Shares ISA, your savings have the potential to rise significantly. Your earnings aren’t capped either, so there's the potential for greater rewards, but there’s also the risk that the value of your investments could go down and you could lose money.

If you’re interested in longer-term growth, then a Stocks and Shares ISA may be more suitable

For some investors, a combination of both Cash ISA and Stocks and Shares ISA may be beneficial for those seeking balance. For example, you could always put £10,000 in a Cash ISA and the remaining £10,000 of your allowance in a Stocks and Shares ISA.

If you're unsure about the suitability of your investment, please speak to your financial adviser or contact us and one of our team will point you in the right direction.

Conclusion 

Understanding your financial goals and approach to risk is key to making the right choice, so it's best to review how you're using your Cash ISA and consider transferring to a Stocks & Shares ISA if you're currently using it for long term goals e.g. towards retirement.

Given the complexities of investing and saving for the future, seeking professional financial advice can provide clarity. 

Our ethical financial advice team can help you maximise your ISA contributions, navigate market fluctuations, and build a plan that aligns your long-term financial aspirations with your values.

Please speak to your financial adviser or Contact Us here. 

Written by Helen Tandy

 

References
https://www.gov.uk/government/statistics/annual-savings-statistics-2024/commentary-for-annual-savings-statistics-september-2024

This article is intended for information purposes only and it does not constitute a personal recommendation or inducement to invest. It is based on information obtained from sources which we believe to be accurate but the accuracy of which we cannot warrant and may be subject to change at short notice, therefore we cannot be held responsible for the implications of relying on this information. The contents of this document are not intended to be construed as legal, accounting, tax or investment advice. With any investment your capital is at risk. You should seek independent financial advice if you are unsure whether an investment product is suitable for your personal financial circumstances and appetite for risk. Unless otherwise stated this information is accurate as at 01/05/2025.