Fall in cash Isa inflows during the pandemic

More money from cash Isas flowed into stocks and shares Isas last year than in 2019, according to data that underline the appetite for stock market investment during the pandemic. 

Interactive Investor, an investment platform, found 35 per cent of transfers into its stocks and shares Isa in 2020 came from cash Isas, up from 25 per cent the previous year. 

The biggest three-month period for these transfers came in the second quarter — at the height of the first lockdown — when 42 per cent of transfers came from cash Isas, compared with 26 per cent the year before. 

Jemma Jackson of Interactive Investor explained the shift by pointing to the impact of continued low interest rates, more disposable income for some individuals and the extra time under lockdown to attend to their finances. 

“Even first-time investors may well be increasingly aware that sitting on too much cash is not the best long-term strategy. It may be that all these things combined broke the psychological barrier and got more people investing for the first time,” she says.

In times of economic uncertainty people typically seek to keep more cash on hand. But the pandemic has resulted in a sharp slowdown in the expansion of cash Isa holdings. According to data from the Bank of England, cash Isa deposits by households increased by around £13bn in the 12 months to January 2020. In the subsequent 12 months, they rose by only £1.4bn net.

Cash Isas are a low-risk option for those looking to safeguard their money, but have been a poor performer compared with equity and other investments in a low-interest world. Inflation is another worry, since higher prices erode the value of cash holdings more quickly over time. While consumer prices inflation was running at 0.7 per cent in the year to January, economists believe a level of more than 2 per cent is highly likely by the end of the year.

A longer term factor is the dwindling tax advantage of cash Isas. After the government brought in the personal savings allowance in April 2016, interest earned on cash in a non-Isa savings account was not liable for tax for most savers. Basic rate taxpayers can receive £1,000 of interest a year before hitting the tax threshold, or £500 for higher-rate taxpayers. That meant banks no longer vied with each other during Isa season to offer the best rates on cash Isas, and their non-Isa savings accounts now often offer better rates. 

However, Anna Bowes, co-founder of Savings Champion, a savings rate monitoring website, adds a note of caution, warning that our assumptions on taxes are likely to be sorely tested in the post-Covid recovery.

“What happens if the personal savings allowance is one of the things removed to help raise more tax? If it is, people may suddenly wake up to find they’re paying more tax on their savings than before — and once the end of the tax year has gone you’ve lost that allowance,” she says.

Cash Isas remain easily the most common way for people to take up their Isa allowance. In 2018-19, the share of adult Isa accounts subscribed to in cash rose to 76 per cent, compared with 70 per cent in the previous tax year, according to HM Revenue & Customs’ figures. 

So in spite of all the caveats about low interest rates, inflation and non-cash savings rates, many will still want to put money into a cash Isa before the end of the tax year on April 5. For these savers, which are the best deals on offer? 

Cash Isa rates are higher when savers are willing to tie up their money for longer. Gatehouse Bank offers 1.15 per cent over five years on a minimum £1,000 saving. Shawbrook Bank has a three-year deal for 0.75 per cent for the same minimum deposit, according to data from finance website Moneyfacts. On a one-year deposit, Leeds Building Society offers 0.5 per cent with a minimum £100 deposit. 

For those looking for instant access to their money, Al Rayan Bank, a sharia-compliant bank, offers a profit rate of 0.6 per cent on a minimum £50 deposit. Virgin Money has an easy access cash Isa with an interest rate of 0.5 per cent. 

Once opened, savers often woefully neglect their cash Isas. Research by investment brokerage AJ Bell this week found that 45 per cent of cash Isa savers had never switched to another account to get a better deal, and the average saver last reviewed their interest rate two and a half years ago — over which period the average rate has more than halved. A quarter of savers believed their rate was 1 per cent or more, when the average is 0.4 per cent. 

The sums are not trivial: the same research found the average held by cash Isa savers was £27,727 — the equivalent of 11 months’ worth of typical household expenditure.

“It’s definitely prudent to build up a cash buffer to deal with any unexpected costs, particularly in uncertain times. But cash Isa savers may well be doing themselves a disservice by holding too much money in cash, opening themselves up to inflation risk, and missing out on the higher returns potentially available from investments,” AJ Bell says. 

One reason why holding a big sum in a cash Isa is justifiable is when savers are looking to build up a war chest for a large transaction, such as a home purchase. The broker said this was likely to explain the fact that savers aged 18-34 held more in their cash Isas — £32,800 on average — than those in the 35-54 age range, who held £23,000.

“Broadly speaking, if you think you may need access to your money within five years, cash is the best option,” AJ Bell says.