Individual Savings Accounts (ISAs)

These function like savings or investment accounts, but with additional benefits. Any increase in your money, from interest on savings or gains on investments, are tax free forever. You do not need to declare the growth on your tax return.

4 Main Types:

1. Cash ISA

2. Stocks and Shares ISA

3. Lifetime ISA or LISA

4. Innovative Finance ISA (IFISA)

You can open one of each type of ISA per financial year (6th April to 5th April) with different amounts saved in each up to the annual limit of £20,000 across all accounts. You can have multiple ISAs of each type open (for example 2 cash ISAs), but you can only pay into one each financial year.

What is an Innovative Finance ISA?

These were introduced in 2016 and are ISAs invested through peer-to-peer (P2P) lenders. Peer-to-peer lenders have only been around since c2005, with many starting after the 2008 financial crisis. These are providers who lend money from investors (such as yourself) directly to individuals and companies, without the need for a traditional bank. They offer better rates to borrowers than banks. If you take out an IFISA then this contains peer-to-peer loans.

Through the peer-to-peer lender you lend to individuals and businesses, who repay the loan with interest over a period of time (called the term). Your investment will be split between lots of borrowers to minimise the risk of them not being able to pay back the loan or defaulting.

The projected interest rate is agreed before you invest, with a higher interest rate granted if you agree to lend your money to riskier businesses and individuals and if you invest it for a longer time period. There is a risk that more borrowers default than is predicted, particularly if you lend to riskier borrowers (some defaults are built into the interest rate). The interest rate advertised is not guaranteed. The peer-to-peer platform takes a fee for setting up the loan and a cut of the interest.

Limit

£20,000 per financial year. This goes towards your annual ISA allowance of £20,000 across all types of ISAs. Any interest received does not count towards the annual allowance. If you don’t use the allowance it is not carried forward into future years; you may see prompts to fill up your ISA allowance for the year. Once contributed it can stay in the account indefinitely, and once a new financial year starts you can add money again under the new allowance.

If you are new to peer to peer lending you the maximum you can invest is 10% of your investable assets, based on your self certification. However, if you have received financial advice from a qualified professional or are an experienced investor you can invest more. This is to help protect investors.

Where can you get one?

The biggest providers are Zopa and Funding Circle, though there are many smaller providers too. The biggest providers are currently not accepting funds from retail (or non professional) investors. This is because they are lending money from corporate investors and also from the UK government through the Covid Recovery Loan Scheme. This money is guaranteed by the government so if the borrower can’t repay, the government will step in and pay for them.

For now, only Zopa is asking individuals to sign up to a waiting list for when they start offering retail investors the chance to lend again, with a minimum amount of £1,000. It is not clear when or if Funding Circle will start offering this product again. A previous large peer-to-peer lender was RateSetter, which was bought by Metro Bank in 2020, the loans were transferred to Metro Bank and they no longer offer peer to peer lending.

Benefit

The rates offered online vary and tend to be between 2-7%. For example Zopa offered 2% – 4% for low risk loans and 2.1% – 5.3% for medium risk loans over a borrowing period of 1 – 5 years. This is higher than what you would currently get on a savings account with a bank. Though these rates are not guaranteed. Any interest earned on the account is tax free.

Eligibility

IFISAs are available for UK residents (or part of the crown service) aged over 18.

When can you access the money?

This is not as straightforward as it might seem. When you invest you agree to keep the investment for the length of term, sometimes 5 years. You will receive repayments every 1-2 weeks and can withdraw money as you go.

Most peer to peer lenders also have a mechanism where you can sell the loans through the platform, provided there is another investor who wants to buy the loan. This is not guaranteed and also the platform can remove this option. This is what happened with Funding Circle who have stopped new investments for retail investors and this means the existing loans cannot be sold. Retail investors cannot withdraw all their money and must wait for the loan to be repaid and for the regular repayments to withdraw. This can take months or years.

Is your money protected?

Your money is NOT protected by the FSCS (Financial Services Compensation Scheme), which means if the UK Prudential Authority regulated financial institution goes bust your money is NOT protected up to £85,000. There have been a couple of smaller providers who have gone bust, for example Lendy in the UK and some other lenders in the US. It’s a relatively new industry and there are lots of unknowns.

A few UK providers (Funding Circle, Zopa, Lending Works and CrowdProperty) are regulated by Article 36H of the Financial Services and Markets Act 2000. Some providers have a reserve fund for when more borrowers do not repay the loans than anticipated, although not all.

Can you transfer your ISA?

You can transfer your cash ISA and Stocks and Shares ISA into an IFISA. However you need to transfer the full amount if you are transferring savings from the existing financial year. If it’s from a different year, you can choose the amount. It’s important to transfer using the forms rather than withdraw and reinvest because of the £20,000 annual limit. This is the total amount that can be invested, for example if you invested £10,000 and withdrew £3,000 this would use up £10,000 of your limit even though your remaining balance was £7,000. If you then wanted to reinvest the £3,000 this would mean you had used up £13,000 of your annual limit. You cannot transfer existing peer to peer loans.

Should you invest in an Innovative Finance ISA?

The Innovative Finance ISA could be an option for you if you are:

Peer to peer lenders offer better rates than existing savings accounts and cash ISAs currently. However they are still relatively new, do not offer FSCS protection and your money may not be easily accessible. You might be able to get similar rates investing with a Stocks and Shares ISA and you would have better access to your money should you really need it (though it is generally considered to be for a minimum of 5 years).