Secrets of the ISA: Part 2

In last week's article, Secrets of the ISA: Part 1, I began peeling back some of the nuances around the Individual Savings Account to get a better grasp of how it works by using some example scenarios. Here were the things that I managed to cover:

  1. The basics of an ISA and the different types

  2. Moving ISA providers

  3. Multiple ISAs in the same year: what's permitted and what's not

  4. You can actually increase an ISA by more than £20,000 in a year

  5. What are Flexible ISAs and how do they work

It's always been easy to find "surface level answers" to the above questions or scenarios, but whenever you wanted to do a little bit more with your accounts the possibilities became a bit more unclear. The answers are out there, but it's a bit scattered and sometimes confusing to decipher the explanations.

The aim of the article is to give people out there a single place to find all of that information that isn't difficult to follow and to gain a deeper understanding so that they can make more effective decisions and choices when it comes to making their personal finance arrangements. After all, it would be a shame to think you maxed out your ISA for a year only to discover later that you left a couple of thousand in allowances on the table; by then, it'll already be too late.

In this second part article I will continue to collate my findings and analysis around the ISA. These scenarios are not as common as the first batch but they still pop up from time to time.

Can you transfer investments into a Stocks & Shares ISA?

There are two scenarios to think about when considering a transfer of investments into a Stocks & Shares ISA.

  1. Transferring investments that are not in an ISA.

  2. Transferring investments that are already in another Stocks & Shares ISA.

There could be a number of reasons why you want to make such a transfer, in the first scenario you want to have your investments moved into a tax sheltered account and in the second scenario you might have found a provider with lower fees, better service and wider choices to invest your money into.

For the first scenario the answer is "maybe" depending on where those investments come from.

If you are transferring investments you hold from a Save As You Earn (SAYE) scheme or a Share Incentive Plan (SIP) then you might be able to transfer them into an ISA as long as your ISA provider permits it. Both of these schemes are Employee Share Schemes as opposed to investments you make via a General Investment Account and you must move them into your ISA within 90 days from when you received those shares.

Just like with any other deposits into your ISA these transfers will use up a portion of your annual allowance, and the amount used is calculated based on the valuation of the shares when the transfer is made.

If you have investments that you hold via a General Investment Account you cannot directly move investment units from that account into a Stocks & Shares ISA. Instead you need to sell your investments and convert it into cash, place that cash into your Stocks & Shares ISA, and then use that cash within the Stocks & Shares ISA to invest. You would need to go through this even if you intend to buy the exact same investments after your money is inside an ISA and the process is known as a Bed and ISA.

Doing this will mean that any future gains or dividends from your investments will be tax free; however, the action of selling your investments during the Bed and ISA process could trigger a taxable event so you will want to think about the amounts you are intending to move.

Tip: Utilise your annual capital gains allowance to keep as much of your investment gains as possible. Split the transfers over a couple of years if you need to!

It's quite straight forward to go through the Bed and ISA process yourself as you simply sell your investments, open a Stocks & Shares ISA and then deposit money into it. But some ISA providers might offer a seamless process where you can give a single instruction and they will handle it all.

As you will be converting your investments into cash temporarily it does mean that you will be "out of the market" for a very short period of time. This might mean that you end up with a different number of investment holdings in terms of units or shares for the same amount of money as the price might have moved up or down during that time. See the diagram flow below that illustrates how different amounts of units are held in the ISA after the Bed and ISA process is complete, but the overall value of investments is the same (almost).

A diagram showing how a Bed an ISA can result in slight variances of investment units after the process is complete

This might work for or against you in the short term depending on how the price moves, but in the bigger picture it shouldn't make that much of a difference and you'll have the benefits of tax-free gains in the future on the investments that you moved into your ISA.

For the second scenario, transferring investments that are already in another Stocks & Shares ISA, the answer is also "maybe". This is depending on what you are trying to transfer and how as there are two possible options, 'In specie' transfers or cash transfers.

Usually you would make a cash transfer if you wanted to adjust and change your investment choices during the transfer process. One of the reasons you are transferring to a new ISA provider might be that you have spotted a product with them that you feel is better aligned to your investment strategy, and that product isn't available with your existing provider. With a cash transfer your current investments are sold so that it is converted into cash and then moved. The process ensures that your cash keeps its ISA status and once it has arrived at your account with your new ISA provider it will be reinvested based on your instructions.

Since your investments are converted to cash during the process the same caution applies with regards to being "out of the market" for a short period of time. But if you're updating your investments to be better aligned to your personal investing strategy then any differences that might occur will be inconsequential in the long run.

'In specie' transfers are the reason for the answer to this scenario being a "maybe", because if the new ISA provider doesn't offer the same investment product then they will not accept it being transferred in. You would instead need to pick an alternative investment product that is offered by the new provider and this would result in a cash transfer.

If the same investment product is offered then an 'In specie' transfer shouldn't be a problem and the transfer can be initiated from the new ISA provider where they will simply take your investment holdings and move it across to your new account. This process can take a little longer, typically 4 to 6 weeks, but the advantage is that your money remains invested throughout the process. Therefore you do not need to be concerned about being "out of the market" as you will have the exact same investments from start to finish, although you likely won't be able to take any actions on those investments while the transfer is taking place.

Below is a diagram to illustrate how price movements can affect your holdings during a cash transfer and an 'In specie' transfer:

A diagram showing how ISA investments can change when doing a cash transfer and an In specie transfer

Notice with the cash transfer the number of units held at the end is different to the start, despite the overall value of the investments being the same (£5,300). However, with the 'In specie' transfer the number of units remains the same as nothing is ever sold but the value of the investments changes based on the price movement that has occurred (£5,430).

As an aside, it's possible to make a cash transfer between ISA providers where you end up buying the same investment product on the other end (as illustrated in the above diagram). You might do this because a cash transfer is typically quicker to complete overall.

As a final note on this section, watch out for exit fees whenever you think about transferring your Stocks & Shares ISA. Some ISA providers may charge you a fee to transfer away, particularly if you are performing an 'In specie' transfer. On the plus side, some ISA providers might cover these fees to encourage you to move to them.

Verdict: Transferring investments into a Stocks & Shares ISA has its own nuances but only for very specific scenarios. The majority of scenarios will be straight forward or will have an acceptable alternative. The type of transfer sounds important with regards to staying in the market but I believe that it doesn't really matter when considering the bigger, long-term picture; the only way it would become an issue is if you were selling your investments and then trying to "time" when to reinvest. Ultimately there is no way to move investments from outside an ISA to within an ISA "for free", it will either use up some annual allowance, or generate a potential tax event, or both; but if you're smart with how you utilise the capital gains allowance you can keep any tax bills to a minimum.

What happens if you go over the annual allowance?

With the annual allowance set at £20,000 it'll be quite difficult for most people to maximise their ISA in a single year. However, it can and does happen for a few people who have high enough earnings and in a few cases the annual allowance might be breached by accident. This isn't that uncommon as it is possible to have ISAs with various different providers and sometimes you might simply lose track.

A really simple example is someone might have forgotten they deposited some money into their Cash ISA earlier in the year, let's say £1,500 at the end of April, and then made a £20,000 deposit later on in the year around December. That would be a total of £21,500 in deposits which is more than the annual allowance.

If you find yourself in this situation:

Don't try to fix this yourself!

This is because you might accidentally remove the money from the wrong ISA (if you have more than one account) and you could end up losing the tax-sheltered status on that money. Instead you should simply stop depositing any more money into your ISAs for the current tax year and wait for instructions from HMRC.

HMRC will check everyone's individual records at the end of each tax year and this process will allow them to know if you've paid in too much money into an ISA. At this point they will likely get in touch to tell you what they've done to fix the situation or tell you what you need to do yourself.

If you made any earnings, interest or other gains from the extra amount that was in your ISA there will likely be some tax handling applicable to it, as it would be treated as though the money wasn't in an ISA in the first place.

Alternatively, you can call the HMRC savings helpline on 0300 200 3300 to get further instructions if you need further advice. But always remember, don't do anything by yourself until you've got clear instructions from HMRC.

Verdict: Overpaying into an ISA is more common than it might seem despite the generous annual allowance. But there's no need to worry as HMRC has processes in place to track these overpayments down so that they can provide you with instructions on what you should do to correct it. The most important thing to remember is to not do anything by yourself as you could mistakenly take money out of the wrong ISA which will cause you to lose the tax shelter status on that money.

What happens if you double down on an ISA type?

Similar to overpaying into your ISA you might accidently pay into two accounts of the same ISA type in a single tax year. Again this is an easy mistake to make if you have multiple different ISAs with different providers.

As an example you might have deposited £1,500 into your Cash ISA with Vanguard in May and then a couple of months later in September you open a new Cash ISA with Hargreaves Lansdown. You do this because you forgot that you already deposited money into your Vanguard account and therefore you have broken the rule of only opening one type of ISA each year.

If this happens the advice is the same as when you have gone over your annual allowance:

Don't try to fix this yourself!

If you try to fix the problem yourself without first getting instructions from HMRC then you might end up making further mistakes that could cause you to lose the tax shelter status on your money. There are two possible ways for you to make an extra mistake through your "self-corrections":

  1. You withdraw money out of the wrong ISA and lose the tax-shelter status on that money.

  2. You keep depositing money into the wrong ISA that will be voided in the future by HMRC.

With the first possibility you might try to withdraw money from your ISA thinking that this will "reverse the mistake". But if you get it wrong then you will still have a mistake that isn't fixed, plus you will have withdrawn money from a valid ISA meaning you lose the tax-shelter status on that money as well as the allowance used to get that money into an ISA in the first place.

With the second possibility you might continue to deposit money "into an ISA" as you still have some annual allowance. But the problem is if you are depositing into the wrong ISA then that money may have its tax-shelter status "voided" by HMRC in the future when they come around to sorting out your mistake. Effectively that would be like depositing your money into a normal account that isn't an ISA and therefore your annual allowance isn't being used up. If HMRC take a while to sort out your issue then it might mean you miss out on that allowance forever since the tax year could have ended by that point.

Ultimately the best thing to do is call the HMRC savings helpline on 0300 200 3300 to explain what has happened and get instructions from them on what to do next.

Typically what will happen is HMRC will help you determine which ISA is the valid account so you don't make further deposit mistakes. After the current tax year is over they will figure out which ISA is invalid (likely the one you opened most recently) and close it for you, and will refund you the money into a normal bank account. You might be able to keep any equivalent interest that was earned in the time that has passed but some of that interest might be liable for tax.

Verdict: Just like with the overpayment mistake it isn't the end of the world if you pay into two ISAs of the same type in the same year. Always be open with HMRC on your mistakes as they are there to help you, and await for their guidance and instructions instead of trying to fix it yourself to avoid any further mistakes when it comes to your ISA allowance.

Can you inherit an ISA tax free?

Like it or not there will come a time for each and every one of us to have our final day in this world, and regardless of what you believe comes next it is an unavoidable fact that this current life will come to an end.

Now you might be someone who is aiming to pass away without a single penny left to their name, which is great as it means you fully spent your hard earned money on yourself; but if you're anything like me then you might decide that you'd like to leave a little bit of wealth behind to support your loved ones that still have a little bit further to go in life.

If that's the case then it's useful to know how your money and assets within an ISA is treated after your death.

Here's the quick version, you can pass your ISA holdings (cash and assets) to anyone you like but it will only be exempt from inheritance tax if you pass it to your surviving spouse or civil partner.

When you pass away, something known as the Additional Permitted Subscription (APS) will come into existence and can be benefitted from by your surviving spouse or civil partner. This is regardless of if you had a will or not and the APS itself cannot be passed onto anyone else such as your children. The APS is an extra allowance on top of their own annual allowance that will be equivalent to the amount of money you had in your ISA (there are some rules to this explained later).

Here's the interesting thing, if you pass the money in your ISA to someone else besides your surviving spouse or civil partner they would still be able to apply for the Additional Permitted Subscription. This means they would still get the extra allowance based on the value of your ISA but they wouldn't receive any of your ISA holdings (that you didn't pass to them). Therefore, by using their own money they would be able to utilise that extra allowance and potentially get more of their own wealth into an ISA.

Don't forget however that if your money in an ISA is passed to anyone else besides your surviving spouse or civil partner then it will be subject to inheritance tax calculations.

A diagram showing how a surviving spouse or civil partner will receive additional ISA allowance via the Additional Permitted Subscription (APS)

Since the APS was only announced in the 2014 Autumn Statement by the government there are a couple of rules and conditions that you should be aware of:

A surviving spouse or civil partner cannot apply for the APS if the deceased passed away before 3 December 2014. This is because the death occurred before the APS officially came into existence.

If the deceased passed away on or after 3 December 2014 and before 6 April 2018 then the surviving spouse or civil partner can apply for an APS that is equal to the value of the ISA on the date of death. That means if the ISA was worth £100,000 on the date of death then this is the additional allowance that the surviving spouse or civil partner could apply for.

If the deceased passed away on or after 6 April 2018 then the ISA becomes a "continuing ISA" which means that the value of the ISA could increase while the deceased's assets and estate are being handled. An example of this happening is if the deceased had investments within their ISA where the value of those investments could change. The status of a "continuing ISA" remains until one of the following events happen:

  1. The completion of the administration of the deceased's estate.

  2. The ISA is closed (by withdrawing all of the funds within it).

  3. The third anniversary of the date of death.

The continuing ISA allows the surviving spouse or civil partner to benefit from any value rise in the ISA until one of the above events occur. If the value of the ISA falls however, the allowance will still be what it was at the date of death meaning the surviving spouse or civil partner is sheltered from a value drop in their additional allowance.

A diagram showing how the amount of Additional Permitted Subscription (APS) can rise based on a continuing ISA

There are also some time limits that you will need to be aware of when it comes to utilising the Additional Permitted Subscription.

Cash subscriptions can be completed under the APS for three years after the date of death, or for up to 180 days after the administration of the estate is complete, whichever is later. Meaning if the administration of the estate takes more than 3 years there will be an additional 180 days after the completion for cash to be deposited into an ISA under the APS rules.

Note: For deaths between 3 December 2014 and 5 April 2015 the time limit countdown began on 6 April 2015.

For non-cash assets such as stocks & shares the APS must be completed within 180 days of the distribution of the assets by the estate to the surviving spouse or civil partner. Meaning once the stocks & shares that were within an ISA are received from the deceased's estate the surviving spouse or civil partner will need to place those into their ISA under the APS rules within 180 days. If they don't then those stocks & shares will lose their tax shelter status and simply be treated as normal investments.

Beyond the Additional Permitted Subscription there are also certain ISA holdings that can be passed on to any beneficiary without incurring inheritance tax, or only being liable for 50% of the standard inheritance tax amount on those holdings, even if that beneficiary is not a surviving spouse or civil partner.

Since August 2013 it has been possible to hold Alternative Investment Market (AIM) shares within a Stocks & Shares ISA and these types of investments can qualify for Business Property Relief (BPR) which is a inheritance tax relief on certain business assets that have been held for at least two years. BPR isn't an ISA specific tax relief but is something that can be applied to particular qualifying AIM stocks held within an ISA which would allow them to be passed on to a beneficiary with reduced inheritance tax.

Typically for a business to qualify for BPR it must be trading and must not be listed on a main stock exchange anywhere in the world. Unfortunately there isn't a definitive list of businesses that qualify as HMRC will only retrospectively assess the holdings when a claim for tax relief is made during the probate process. Nevertheless, if you manage to come across any investments that you think may qualify for BPR then it's good to know that you might be able to place these within an ISA for the tax advantages and then pass them on after your death without any inheritance tax liabilities.

Verdict: Passing on your ISA tax free to loved ones after you die is possible under certain conditions. Through the Additional Permitted Subscription (APS) you are able to pass your ISA holdings to a surviving spouse or civil partner without worrying about inheritance tax. However, if you opt to pass those holdings to someone else (and be subject to IHT) your surviving spouse or civil partner can still apply for APS and utilise the extra allowance with their own money. Another way to pass your ISA onto someone else free of inheritance tax is by investing in the Alternative Investment Market (AIM). Such investments can benefit from Business Property Relief (BPR) which allows them to receive inheritance tax relief. However, such tax reliefs must be claimed by the beneficiary after your death and the assessments are only made retrospectively by HMRC.

What happens to your ISA after moving abroad?

If you have been considering a move abroad, maybe for career opportunities or maybe to retire, then you might be wondering what happens to the money you've deposited into your ISA. It can be confusing on what you should do with that money, withdraw it all and take it with you or leave it where it is in the ISA, and really it comes down to your own decision based on your future intentions to return to the UK or not.

But regardless of what decision you end up going with the important thing is this:

You don't need to rush your decision on what to do with your ISA

This is because you are able to keep your ISA (in most cases) and sort it out after you've moved abroad, even if it's quite a few years into the future.

You will need to inform your ISA provider as soon as you stop being a UK resident so that they can update your details, and this will also mean you cannot make any more deposits into your ISA once the current tax year in which you moved has ended.

Note: Some ISA providers may not allow you to continue having an account with them if you move abroad so it is best to verify this before making your move. You should be able to make an ISA transfer to another provider if this is the case.

Any money or assets you keep in the ISA will continue to benefit from tax relief in the UK, despite you not being a UK resident anymore. This means you can continue to earn interest, dividends or gains from your ISA holdings without being liable for tax in the UK. However, you might still be liable for tax on those earnings in your new place of residence as they may not locally recognise the ISA as a tax-shelter.

An example is if you move to the United States while still holding an ISA in the UK. Any interest, dividends or capital gains earned in the ISA will not be taxed in the UK but would be subject to federal and state tax in the US in the same way it would've been if those earnings were gained in a normal bank or investment account.

Alternatively if you had moved to Hong Kong, all of your earnings would remain tax free. This isn't because Hong Kong recognises the ISA as a tax shelter but it is because there is no tax on interest, dividends or capital gains in Hong Kong.

Local tax rules will vary and can even become quite complex depending on where you are so you will always want to do your research before making your move to avoid being penalised for misreporting. Usually the best course of action is to speak to an accountant who is familiar with the tax rules of the country you are intending to move to.

One thing to remember is that while you're not able to add any more money into your ISAs you can still manage them while you live abroad. This means you will be able to make ISA transfers to other ISA providers, or even buy and sell investments within your Stocks & Shares ISA as long as no "new money" is being deposited. You will need to be aware of any capital gains tax events that might be triggered in your new place of residence whenever you buy and sell however.

Finally, if you ever decide to return to the UK and become a resident again you will become eligible once more to deposit money into your ISA. Any annual allowance that you forwent during your time abroad will not be available to you but you will get an annual allowance just like everyone else from the moment you regain your UK residency.

Note: I believe the annual allowance you receive after regaining your UK residency is not on a pro rata basis, meaning you will get the full annual allowance for the current tax year regardless of when you return to the UK. I tried to research this but couldn't find anything definitive and the best people to ask would be HMRC if you're concerned about the limits.

Verdict: In the current day and age moving abroad to work or live indefinitely is increasingly common, but that doesn't need to be the end of your ISA as you are still able to keep your accounts open in the UK. This will come at the sacrifice of being able to deposit any more money into your ISA while you're not a UK resident but you still have the flexibility to manage what's already in your ISA. You keep all of the tax relief benefits within the UK but this doesn't automatically mean you aren't liable for tax in your new place of residence, so always do your research before finalising your move.

Child Trust Funds: Should you transfer them into a Junior ISA?

If you opened a Child Trust Fund (CTF) for your children while it was possible between 2002 and 2011 you will find that it is not possible for you to open a Junior ISA (JISA) for those same children.

However don't be too concerned as you can continue to save and manage existing CTFs until they reach maturity and they have very similar benefits to the JISA; it is possible to save via cash or stocks and shares up to an annual allowance of £9,000 and those savings will be sheltered from tax.

So why make a transfer?

Despite the similar benefits in terms of savings options, annual allowance and tax relief you might come across certain JISAs that have a better interest rate or a better offer in comparison to the existing CTF that has been opened for your child. In much the same way that you might consider transferring from one JISA provider to another based on those extra benefits (or reduced costs), you might want to make the same move from CTF to a JISA.

If you do arrive at this decision and believe the move is the best thing for your child:

Don't try to do the transfer yourself!

You will want to get the JISA provider to make the transfer for you after you have submitted the necessary documents. This is the same advice I gave when writing about moving ISA providers and the key is to avoid any mistakes that could cost your child their tax sheltered status on their money.

Since the transfer is performed by the JISA provider that you are moving to, much of the advice and guidance has already been covered in the Part 1 article so there's no need to cover it again here.

However one thing you should keep in mind with this type of transfer is that you cannot go back to a CTF after you've moved over to a JISA. Generally it will be a good move to make and is mostly recommended by the experts but there can always be a special case where the move isn't actually the best thing, so always do your due diligence and speak to a financial advisor if you're uncertain.

Finally, it is possible to transfer between different CTFs if you happen to find an alternative CTF provider with a better rate or a better deal compared to the existing provider. This type of transfer should be quite safe as you still have the option in future to transfer over to a JISA in future, but beware of any costs involved with the transfer.

Verdict: Child Trust Funds are the predecessor to the current Junior ISA and have very similar benefits and advantages. It isn't possible to open one anymore but any that still exist can continue to be managed until they reach maturity. This is a fine option to take as the savings options and annual allowance is the same, but there can be some cases where you find a wider range of products or a better deal in a JISA. Since a child cannot have both a CTF and a JISA you will need to transfer the CTF into a JISA in order to capitalise on any better deals that you have found. The transfer is a one way trip and works in a similar manner to other ISA transfers where you will want the JISA provider to do all the handiwork after you've submitted the relevant forms.

And that's everything I know about the ISA

It really is surprising how much information and nuance there can be to the ISA despite the basics of it being so simple to understand; after all, if you hear you can save £20,000 each year and make it tax free what more should you ask right?

Well I guess I just got a bit curious and came across various scenarios or questions that needed a bit of digging into to find the answer. I don't claim perfect or absolute knowledge but I looked hard to put this information together, so I do believe that both Part 1 and Part 2 articles are quite comprehensive when it comes to understanding the ISA.

I hope it helps some of you out there and maybe if you've found a few extra things that I might've missed, or even got wrong, you can let me know. I'd be happy to put together a Part 3 if the amount of extra information warrants another article!


Throughout this article I mentioned various concepts and principles that I have covered in previous articles. If you want to get into the details of those you can find the links below:

  1. What you might not have known about the ISA: Part 1

  2. How to always buy the S&P 500 at a low price


Don't wait for some magical number before you start "living". Life is full of surprises and you'll never be able to plan it perfectly. If you're doing sensible things with your money you'll eventually reach your goal. So start living now. The longer you wait, the less time you'll have. Money can be made, but time cannot. You are the barrier to the life you want to live, not a 4% safe withdrawal rate.

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