Where could you hold your money as Cash ISAs see the fastest erosion in wealth in 40 years?

Inflation was a focal point of the news during the whole of 2022, reaching highs not seen in 40 years as the cost of goods and services surged throughout the year.

The Office for National Statistics (ONS) recorded inflation to have reached 10.5% in the 12 months to December 2022, with the final figure of 2022 capping off a year of monthly updates that were predominantly in double figures.

This has presented a particular problem for those holding their money in cash. As the cost of goods and services increases, you need your cash to receive the equivalent rate of interest. Otherwise, it loses its spending power over time, essentially losing value in real terms.

This potentially presents a significant issue for money held in Cash ISAs. Each tax year, you can save and invest up to the ISA Allowance (£20,000 in 2022/23) in the range of ISAs available, and your money will be entirely protected from Income Tax and Capital Gains Tax (CGT).

In this way, Cash ISAs behave like tax-efficient savings accounts as any interest generated is entirely free from Income Tax, a feature which can be useful for reducing your tax liability.

Interest your money generates will typically be subject to Income Tax if it exceeds your Personal Savings Allowance. In the 2022/23 tax year, the Personal Savings Allowance is:

• £1,000 for basic-rate taxpayers
• £500 for higher-rate taxpayers
• £0 for additional-rate taxpayers.

That means a Cash ISA can be an appropriate choice for you if you’re a high earner or saving significant sums that could generate interest that will exceed your Personal Savings Allowance.

However, data released last year now indicates that money held in Cash ISAs has been particularly affected by the eroding effect of inflation.

So, find out how much wealth UK savers holding with Cash ISAs might have lost, and where else you could consider putting your money in 2023 to help prevent wealth erosion.

UK savers missing out on £26.7 billion in interest payments

Figures published in FTAdviser at the end of November 2022 show the extent to which those holding their money in Cash ISAs may have been affected.

At that time, the average interest rate for all open Cash ISAs sat at just 1.74%. With £285.5 billion held in the accounts, that meant savers were collectively earning £5 billion in interest between them.

However, with inflation in double figures, Cash ISA savers would have needed to receive £31.7 billion altogether for their money to retain its spending power, leaving a £26.7 billion shortfall in interest.

Investing your money can help keep it ahead of inflation in the long term

There’s nothing wrong with holding a portion of your money in cash. It can be a sensible and prudent thing to do, ensuring that you have access to cash if you need it – and indeed, a Cash ISA can be a tax-efficient way to do this, particularly if you’re saving large sums.

But in the long term, you may well see the value of your wealth eroded by inflation if you aren’t receiving sufficient interest to keep it in line with the rising cost of living.

This is where investing can make a significant contribution to your financial planning. By investing your money in the stock market, you can increase your chances of it keeping up with rising inflation.

Historical market data from Barclays demonstrates this effectively. The banking giant examined what £10,000 would be worth when held in cash versus various investments between January 2002 and December 2022.

Using the JP Morgan Cash Index for reference, they found that the total returns from £10,000 of cash would give you £17,763 by the end of the 20-year period.

Meanwhile, if you held your money in UK shares (represented by the FTSE All-Share) you would have £27,509 over the same period. This figure rose to £37,344 for global developed market shares, represented by the MSCI World Index.

According to the Bank of England’s inflation calculator, £10,000 of goods and services in 2002 would have cost £17,004 by the end of 2022.

So, while holding your money in cash throughout this period would have kept it around the level of inflation, investing gives you the potential to not just stay in line with but outpace the rising cost of living.

Choosing where to invest your money

If you do intend to invest your money, you’ll need to choose how you’ll hold your investments. Two ways you could consider doing this are in a Stocks and Shares ISA, or by contributing this money to your pension.

Stocks and Shares ISA

A Stocks and Shares ISA allows you to invest your money tax-efficiently, with any interest or returns free from Income Tax and CGT.

These accounts are also subject to the ISA Allowance, meaning you can invest up to this amount each tax year, currently standing at £20,000 in 2022/23. So, if you’ve already used your ISA Allowance on your Cash ISA this tax year, you may not be able to make any more subscriptions to your account.

That said, you could arrange an ISA transfer and move the money held in your Cash ISA to your Stocks and Shares ISA. By doing so, you’ll also be able to keep any remaining ISA Allowance you have in the current tax year.

However, you should bear in mind that if you have already contributed to your Cash ISA in the current tax year, you’ll have to move the entire balance in order to do this.

Contributing to your pension

Alternatively, you could choose to contribute your money into your pension instead. Your pension is a tax-efficient wrapper for your money as it will be free from Income Tax and Capital Gains Tax (CGT) on any interest or investment returns generated.

Crucially, you’ll also receive tax relief on your contributions at your marginal rate of Income Tax. You’ll receive tax relief on contributions to your pot up to the pension Annual Allowance each tax year, a threshold standing at the lower of £40,000 or 100% of your earnings in 2022/23.

It’s worth noting that you may be subject to the Tapered Annual Allowance if you’re a high earner. Make sure you speak to an expert if you’re unsure whether this will affect you.

Get in touch

Want to find out the most effective ways for you to hold your savings or investments in 2023? Email enquiries@rosebridgeltd.com or call 01204 300010 to speak to us at Rosebridge.

Please note

This blog is for general information only and does not constitute advice. The information is aimed at retail clients only. All contents are based on our understanding of HMRC legislation, which is subject to change.

A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.