Saving Up to Buy a Home? How to Choose an ISA

Posted 16 September 2019 by Nick Parkhouse

New research has found that buying a house is the top reason for Brits to save. Read our complete guide to choosing where to save for your deposit...

If you’re saving up to afford the deposit for a new home, you’re not alone. New research from NatWest has revealed that saving for a house is the most popular reason why people in the UK set money aside, with one in four people saving for this reason.

So, if you want to get the best return for your savings, where should you be investing your money? Tax-efficient savings are a good place to start, so keep reading for your complete guide to ISAs and how you can use them to help boost your savings.

ISAs explained

The Individual Savings Account (ISA) celebrated its 20th birthday this year. The tax-efficient savings vehicle remains hugely popular, with £69 billion invested into ISAs in the tax year 2017/18 alone.

There are three main types of adult ISA:

  • Cash ISA – where you invest money in a traditional bank or building society account. Your capital is not at risk
  • Stocks and Shares ISA – you can typically choose a managed account, where you'll pay fees for your investments to be sorted for you, or you can choose where to invest your money (but you'll likely still pay a fee to the provider). With hundreds of ISAs to choose from you can choose an investment that matches your attitude to risk, and remember that you may get back less money than you put in.
  • Innovative Finance ISA – an ISA that contains peer-to-peer loans; a kind of lending that matches investors with borrowers who did not want to/could not get a traditional bank loan. The borrower will offer a rate of interest when paying back the money you've invested, and you’ll typically get a higher interest rate if you’re prepared to take more investment risk. You're not guaranteed to get all your money back with this type of ISA.

Whichever ISA you choose, there is no income tax to pay on the income received from ISA savings and investments, and you won’t pay any Capital Gains Tax on any gain arising from your ISA investment.

As an ISA is a tax-efficient investment, there is a limit to how much you can invest. The limit for the 2019/20 tax year is £20,000, although certain types of ISA have lower subscription limits (see below).

The Lifetime ISA

If you’re thinking of using an ISA to save up for the deposit for a new home, then the Lifetime ISA was introduced in 2017 for this purpose.

If you’re aged between 18 and 39 and you’re a first-time buyer, you can save up to £4,000 of your annual £20,000 ISA allowance into a Lifetime ISA.

For every £4 you save, the government will add an additional £1, up to a maximum of £1,000 every tax year until you turn 50 years old. Your bonus is paid every month, and so you’ll benefit from compound interest. Note that the bonus is paid on your contributions, not the total amount saved.

Bear in mind that, before the age of 60, you must use the funds in a Lifetime ISA to purchase your first home up to the value of £450,000. If you don’t, and you withdraw the cash for another purpose, you will pay a 25% withdrawal penalty. You have to hold your Lifetime ISA for 12 months before making a withdrawal.

After the age of 60 you can withdraw some or all of your money, including the government bonus, to spend as you wish.

If you open a Lifetime ISA you can still also have a regular Cash ISA and a Stocks and Shares ISA as long as your overall contributions are within the annual ISA limit (£20,000 for 2019/20 tax year).

Lifetime ISAs are limited per person, not per home and so, if you’re buying as a couple, you can both open a Lifetime ISA and benefit from the government bonus.

There are several different Lifetime ISA products available, and you can choose between a Lifetime Cash ISA and a Lifetime Stocks and Shares ISA depending on how long you plan to save, and your attitude to risk.

The Help to Buy ISA

The Help to Buy ISA works in a similar way to the Lifetime ISA, although this type of ISA will only be available until 30 November 2019. After this time you’ll be able to keep saving into your ISA, but no new accounts can be opened.

With a Help to Buy ISA you can invest up to £1,000 as an initial deposit, and you can then save up to £200 per calendar month into your ISA. For every £200 you save, the government will pay you a £50 bonus towards the purchase price of a property, up to a maximum tax-free bonus of £3,000. The bonus is only payable when you buy a property costing a maximum of £250,000 (£450,000 in London).

As well as the government contribution, cash in a Help to Buy ISA will earn interest from the bank in the same way as it would in any other ISA.

And, like a Lifetime ISA, if you're saving up to buy a house with another person, you can both open separate Help to Buy ISAs and benefit from a total government bonus of up to £6,000.

Should I choose a Lifetime ISA or a Help to Buy ISA?

There are several factors to consider when deciding whether to take out a Lifetime ISA or a Help to Buy ISA:

  • If you want to buy in the next year then you won’t benefit from a Lifetime ISA as you can only withdraw the funds after 12 months
  • A Lifetime ISA lets you save more money (there is no monthly cap on deposits)
  • You can potentially earn a larger government bonus with a Lifetime ISA
  • You can buy a property worth up to a £450,000 with a Lifetime ISA, whereas this limit is £250,000 for a Help to Buy ISA (except in London)
  • The Lifetime ISA bonuses are paid monthly, meaning you benefit from compound interest
  • A Lifetime ISA gives you the choice of either a Cash or Stocks and Shares based product

Note that it is possible to open a Lifetime ISA alongside a Help to Buy ISA (as long as you open the Help to Buy ISA before 30 November 2019).

However, you can only use the government bonus from one of these accounts to buy your first home.  You can’t save into both products and receive two bonuses.

 

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