A new tax year has started, giving savvy savers and investors a fresh £20,000 annual allowance to put in an Individual Savings Account (ISA).
It is important, however, to choose the most appropriate ISA and investments for your strategy - otherwise you could end up with an inappropriate product that doesn’t match your risk appetite, or even loses money.
Laura Suter, director of personal finance at AJ Bell, said: “Anyone who has an ISA will know they are a great way to protect your savings and investments from tax, and to grow your wealth over time. But even the savviest of savers can slip up when it comes to the rules or make some common ISA mistakes that may cost them.”
Here are seven ISA mistakes to make sure you avoid when making use of your tax-free allowance.
Choosing the wrong type of ISA
Reform might be coming later in the year, but right now there are six different ISAs to choose from - so it can be easy to pick the wrong one for your savings or investments.
Ms Suter said: “It might be that you’ve opted for a cash ISA, but you’re saving for the long term and an investment ISA would be a better option.
“Or you may have picked a stocks and shares ISA to save for the deposit for a first home, but you could have benefitted from the government bonus available on the Lifetime ISA. Equally, if you’re saving for your child you will want to at least consider a junior ISA, rather than automatically saving the money in your own ISA.
“Not every option will be right for you, and you need to check the details of each account.”
The key here is long-term, says Camilla Esmund, senior manager at interactive investor, because both stocks and shares and cash ISAs hold an important place in the savings and investing landscape.
“There is no denying the allure of cash, and that it will indeed be suitable for some people’s financial goals and circumstances. If in doubt speak to a financial adviser, but our research illustrates that over the long term, it is costly to ignore the stock market as it gives your money more chance to grow over time. Inflation erodes the value of cash over time, and cash rates fluctuate.”
Waiting until the last minute
It is human nature to leave things to the last minute but Jason Hollands, managing director of Bestinvest, says the earlier you open an ISA during the year, the more time your money has to grow or earn interest tax efficiently.
He said: “If you don’t have a big chunk of cash available now, then why not consider saving regularly through a monthly direct debit? This is a very good discipline, which is both easier on your cash flow situation and for investors can help iron out the effect of market ups and downs.”
With frozen personal tax thresholds, the more you can shelter from the taxman through savings, the better.
Over-diversifying
It is importance to diversify your investments when using a stocks and shares ISA as you don’t want all your money in the same type of company or region.
But there is a downside to too much diversification.
Mr Hollands added: “I’ve seen DIY investor portfolios with up to 75 funds. You want high conviction in your holdings, with each able to make a meaningful contribution to returns. There isn’t a magic number on how many funds should be held but given each will typically have exposure to anywhere between 30 and 1000 underlying investments, you can achieve reasonable diversification with half a dozen funds providing they are all doing slightly different things.”
With his own personal rule being to set an upper limit of no more than 20 funds in total, he added it “forces you to think about what you already own and whether you still have conviction in these” when considering adding new funds. “If you conclude you are confident in what you already own, then just top up existing holdings rather than constantly adding new ones,” he said.
Not reviewing your current portfolio
Along the same lines, don’t forget to periodically review what you already hold.
Just because something made sense last year doesn’t mean it’s still the right fit. Some parts of your portfolio may even be underperforming so it is important to understand why that may be.
Nick Winter, financial planner at Quilter, said: “That doesn’t mean you should constantly tweak your portfolio in response to short-term market noise. Your ISA should be built around your long-term goals, and making small changes every time the market moves often does more harm than good. The best results tend to come from staying the course with a well-diversified plan rather than trying to time the ups and downs.”
Panicking about market downturns
Stock markets will have their ups and downs but cashing out too early can mean missing out on a market rally.
James Norton, head of retirement and investments at Vanguard Europe, said: “Successful investors are those who manage to ride out the market falls, remain focused on their goals and stay invested for when markets recover.
“Of course, it helps to stay informed about market news but try not to let it dictate your decisions. Major global events have historically impacted stock markets, but they recovered from these shocks and went on to reach new highs.”
Norton warns that while downturns can be scary, reacting emotionally can lead to poor decisions, such as selling your investments at a loss.
Ignoring investing costs
You may not be able to control the markets but you can have a say in how much you pay.
Fund and platform fees can easily eat into your profits if not checked.
Suter added: “Paying some fees is part and parcel of investing, but one ISA mistake to avoid is paying out too much in charges, as ultimately this will eat into your returns. There are some easy ways to cut your costs, without cutting the investments or service you get. The first is to make sure you’re not buying and selling investments too often. With lots of platforms each time you buy and sell it will cost you money.
Having more than one platform you use for investing can also see fees stack up - so make sure the accounts you use are serving the right purpose in a cost-effective manner.
When investing, your capital is at risk and you may get back less than invested. Past performance doesn’t guarantee future results.
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