The idea is that you can do investement (currently you can put max 20000 GBP per year), and the profits of these investement will be not taxed. There are 4 types of ISA: Cash ISA (essentially tax free savings account), Stocks and Shares ISA (essentially tax free investing), Lifetime ISA and Lending ISA (which is kind of risky and should be avoided).

Savings accounts

You can either have a savings account, where the bank pays you an interest rate for keeping your money with them. Usually it’s around 2%-5% depeding on the bank (high-street banks give less because they are considered more trustworthy). The money you make is considered income. Therefore it gets summed up with your other income streams (such as salary, rent from properties, etc) and you pay tax on all of these together.

Depending on the “tax band”, you get different tax (UK site). Roughly, the first 12,500£ of your income (salary, interest on savings, etc) is not taxed (this is called “personal allowance”). Then, the portion of income between 12,500£ and 50,000£ gets taxed 20%. Then, the portion of income between 50,000£ and 125,000£ gets taxed 40%. Lastly, income above 125,000£ gets taxed 45% and you actually lose your personal allowance as well.

However, if you made this profits through a Cash ISA, they will not be added in your income and are tax free.

Different providers give different rates and also have rules like “how many times you can withdraw money from the account?”, “how much you should add to the account each month?” (again, depeding on these rules your interest may vary for the same provider). Some providers also charge fees for management.

Investing accounts

The tax year in UK starts on 5th April (and ends on 4th of April of next year).

When you invest (in stocks, bonds, etc), you take positions on the market (e.g. buy a stock/fund ETF) and later on you close the position (sell stock/fund ETF). At the moment you close, you realise the profits/losses. If you have made profits on these, you get taxed. This is called “Capital Gains Tax (CGT)”. Currently, every tax year you get 12,000£ tax free allowance and then you pay 10-20% tax.

You also make profits when companies give dividends to stock owners (some companies do give these, some other companies don’t). You also get taxed on these profits and this is called “Dividend Tax”. Currently, every tax year you get 2,000£ tax free per year and for the rest you pay roughly 10%-40% tax (huge range!).

The issue is that a long consistent investement for enough period of time can produce huge profits (due to compound effect)that will expose you in these taxes.

Using a Stocks and Shares ISA, you are guaranteed that these money will never be taxed!!

Note that some providers also charge fees for management.

Lifetime ISA

This ISA was introduced by the government to motivate people to save for retirement. You can open this ISA between 20 and 40 years old, can only contribute until 50 years old and the maximum contribution is 4,000£. You can also not withdraw these money, unless you are over 60 years old, otherwise you get a penalty of 25%. There are two exceptions to the withrdawal rule, one is if you are terminally ill and the other is when you want to use the money to buy a house (although more rules exist for the type of house as well).

Why all this hassle? The benefit is that the government will match 25% of the money you put each year (so if you put 4,000£, the government gives you 1,000£ for free!) (if you withdraw early you lose this contribution essentially).

IMO it’s not worth it, because of the long term commitment and the lack of compound effect of the money

Example:

  • if you add £4000 for 30 years in Stocks and Shares ISA, with super-safe assumption of average 5% anual return, you have deposited in total £120,000 and have made £280,000, which is more than double the money. Also you are not getting taxed and you can withdraw your money whenever you want.
  • if you add £4000 for 30 years in Lifetime ISA, you deposited in total £120,000 and the government adds £30,000 on that. The total amount is not that big of an increase (considering inflation as well), and you couldn’t withdraw these money during this time. The only benefit is that you are diversified in case the market returns are really bad throughout you life time.
  • even investing in a super safe investement like a bond fund would give 5% interest.

Private pension maybe could deliver same results, but the profits will get taxed (unlike ) while withdrawing the money earlier.

stocks and shares providers

Damian ranks Stocks and Shares.

This year you can use more providers. Money Saving Expert has a complete table analysis.

  • The provider I should use should be regulated by FCA (Financial Conduct Authority), therefore are covered by the FSCS (Financial Service Compensation Scheme). Put simply, if the company goes bankrupt, the government will cover up to £85,000. (This is different than the stock market crashing, here we talk about bankrupcy of a single bank that I have my money into, not collapse of the whole economy).

  • Trading 212: only charges 0.25% fx fee (which is super competitive) and no other fees! You can deposit money with instant bank tranfers with no fees. (It’s too good to be true, but these people make money using the CFDs, risky speculators use it and lose most of their money, so don’t use it if you open an account). It also provids 5.2% interest on cash that is paid daily!
  • Vanguard: it actually has created famous funds, so you go straight to the supplier (hence it’s kind of more robust). They made passive investing popular. Platform fee of 0.15% (capped at maximum £375 per year). The fund fee doesn’t matter, you pay that in all platforms.

Note that Vanguard changes the account fee and currently you pay £4 per month flat fee. That means £48 per year. Previously, the fee was 0.15% of the value of your account, capped at £375 (and to pay £48 for fees previously you should have an account worth 48 / 0.0015 = 32000). Competitors (like Trading212) have zero fees or follow a percentage fee (0.15-0.25%) structure. Furthermore, they also don’t have cheap fee on their own funds.

In the grand scheme of things, I guess these fees are kind of small detail, because I am really exposed to the market. So much so that it doesn’t matter much how much fees I pay, as long as the market rises and does not crash. And personally, I pay for Netflix, Spotify and 10 more apps monthly that I don’t actually need that much (and similarly lose £5 pounds per month without noticing).

Links: guide to Trading212, Vanguard funds best options, Index funds cheatsheet,

  • Damians favourite index currently: track the global market (and try to not get influenced by people around and change much). He suggests following Vanguard VWRL, Invesco FTSE all World or HSBC FTSE All world index class C (essnetially trackingFTSE All-World Index and All-Cap Index, includes small cap companies as well, they are pretty similar). Most big funds track the index pretty well (but worth checking). Because of fees, Invesco seems the best (0.15% vs 0.25% is quite a lot). One concern it’s that AUM (assets under management) are only 10M in comparison to the Vanguard one (less liquidity). Invesco have 1.5 trillion AUM so not big concern though. Also Damian explains why he goes Global Index vs S&P. Dollar cost averaging is also really important (he also buys INC and reinvests the dividends himself, it’s actually more engaging IMO this way and I’d like to do that).

  • From a bit of research online, it gets 8% average annual return (vs S&P which is more like 10%). It would be smart to combine with another US S&P500 fund if I need more exposure (although I already got some exposure).

  • Also, consider that saving accounts interest rates are around 5%, and they are much safer, although they fluctuate depending on the central banks interest rates.

Popular tickers list below. Some are accumulated, meaning the dividends are reinvested, and some are income, meaning the dividends are paid to the shareholders. Some are Index funds and some are ETFs (can buy and sell at end of trading day vs throughout trading day, less liquid vs more liquid, fees for index funds typically lower). I also note the fees next to each one. It’s better to buy one that exists in multiple providers, therefore you can move around providers with less hassle (and don’t get allowance issue possibly).

  • for global developed markets (usually follows FTSE Developed Index): VHVG (ETF 0.12% ACC Vanguard), LGGG (0.10% ETF ACC), HMWO, VDWXEIA (Index 0.14% Both available) (excludes UK)
  • for global whole world (mostly following FTSE All-World index): HSBA, VWRP (0.22% ETF ACC Vanguard), VWRL (0.22% ETF INC Vanguard), FWRG (ETF 0.15% ACC Invesco)
  • for USA (mostly followign S&P500 Index, USA has lower fees): VUAG (ETF 0.07% ACC Vanguard), VUSA (ETF 0.07% INC Vanguard), SPX5 (ETF SPX5 0.03% INC), IUSA (ETF 0.07% ACC iShares)
  • lifestrategy by Vanguard 100/80/60/40/20 (different ratios equity to bond): VGLS (0.22% Index ACC+INC Vanguard)

Note: switching funds within your Stocks and Shares ISA does not affect your annual ISA allowance. However, if you withdraw money from the ISA to reinvest elsewhere then it could affect your allowance. Specifically if you have a Non-Flexible ISA, you lose that part of you allowance. In Flexible ISAs, you can withdraw and replace the funds within the same tax year without affecting your allowance. Also note, you can transfer portfolio from one provider to another, without this affecting the ISA allowance.

Quick math

Every year I can invest maximum £20,000, which is equivelant to around £1667 per month or £385 per week.

With dollar-cost averaging strategy (aka investing often enough small amounts to smoothen the effect of really bad/good events), if I invest £1667 monthly, I would need:

  • around 27 years and 6 months to reach £1M assuming 4% annual interest rate return (450K interest + 550K investement)
  • around 23 years and 2 months to reach £1M assuming 6% annual interest rate return (537K interest + 463K investement)
  • around 20 years and 3 months to reach £1M assuming 8% annual interest rate return (600K interest + 400K investement)
  • around 18 years to reach £1M assuming 10% annual interest rate return (640K interest + 360K investement)

If I invested annually £10000, which is equivelant to £192 per week or £833 per month, I would need:

  • around 40 years and 4 months to reach £1M assuming 4% annual interest rate return (597K interest + 403K investement)
  • around 32 years and 7 months to reach £1M assuming 6% annual interest rate return (675K interest + 325K investement)
  • around 27 years and 7 months to reach £1M assuming 8% annual interest rate return (725K interest + 275K investement)
  • around 24 years and 1 months to reach £1M assuming 10% annual interest rate return (760K interest + 240K investement)

If I invest £1667 monthly with a target of £10M, I would need:

  • around 76.5 years to reach £10M assuming 4% annual interest rate return (8.5M interest + 1.5M investement)
  • around 57.5 years to reach £10M assuming 6% annual interest rate return (8.85M interest + 1.15M investement)
  • around 47 years to reach £10M assuming 8% annual interest rate return (9.1M interest + 940K investement)
  • around 39.5 years to reach £10M assuming 10% annual interest rate return (9.2M interest + 790K investement)
  • roughly doubling the wait time than before actually 10x the money

if the annual interest rate return is high at the start of my career, it will be super great! That’s why it makes sense to take on risk earlier in life

sources

Official government link.

Here are some resources to help understand what is happening: