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Brown freezes out Isa calls

The Chancellor is seeking to bring more clarity for Isa investors but there are fears some of his proposals will adversely affect the popularity of the product.

In his pre-Budget report, Chancellor Gordon Brown announced that the annual Isa allow ance will stay at £7,000 for the next five years. He lowered the age limit for mini cash Isas to 16 and aligned the Pep and Isa investment rules.

These are all positive moves which will be welcomed by the industry. However, Brown did not heed calls for a simplification of the Isa rules and an amnesty for investors who have unwittingly fallen foul of the mini and maxi Isa rules.

The Chancellor&#39s 11th-hour decision last March to keep the Isa allowance at £7,000 for a year led to a mad scramble by the industry to amend its products in time for the next tax year. Providers are therefore able to breathe a sigh of relief that there will be no repeat performance for the next five years.

Reducing the minimum age for Isa investment will mean that 16and 17-year-olds are now able to participate in tax-free savings. Under-18s will only be able to take out a mini cash Isa for up to £3,000 a year until April 2006 but it is considered a positive move by the industry as it will encourage young people to start saving.

Most IFAs are welcoming the Chancellor&#39s decision to restrict young people to mini cash Isas in the belief that they are unlikely to use Isas as a long-term investment and that cash Isas are more accessible. Yet some fear the res triction might add confusion.

The question of whether the Isa rules are too confusing has been raised frequently and it was hoped the Chan cellor would use the pre-Bud get report to simplify the rules. Suggestions put forward inc luded removing the distinction bet ween mini and maxi Isas, as well as abandoning the ins urance Isa. There are now worries that Brown&#39s decision to ignore these suggestions could have an effect on the product&#39s future performance.

Chase de Vere investment adviser Justin Modray says: “It is a shame Isas were not simplified as this would help boost sales. It would have been nice to see it happen now as customers are confused but hopefully it will still come.”

A rather more serious threat to the Isa&#39s future popularity may come from Brown&#39s decision to reject industry calls for an amnesty for the 85,000 investors the Inland Revenue has identified who unwittingly broke the Isa rules during the product&#39s first year.

The fact that such a significant number inadvertently bought both maxi and mini Isas shows the difficulty inv estors have had in understan ding the product and the industry had asked for len iency for these investors as long as they had not exceeded their £7,000 allowance.

Isa rules stipulate that inv estors will have to unwind the second incompatible Isa and lose all tax benefits. The pre-Budget report states that Isa managers will have to close down all incompatible Isas and return the investments to the investor. The manager will also have to repay the Rev enue any tax relief given in error and advise the investor that any income and capital gains from the investment will be taxable and they will have to inform their tax office.

The report points out that all Isa application forms are required to spell out the rules and that investors are sent notices by their Isa manager near the end of the tax year telling them what type of Isa they have. It says this should help prevent investors who tripped up last time from making the same mistake again.

The question is whether these people will want to reinvest in a product that has caused them so much trouble.

Threadneedle Investments called on the Rev enue for an amnesty in Sep tember. Communications dir ector Richard Eats says: “These people will be very disappointed. The simpler a pro duct is to understand, the more popular it will be, the more competition there will be and the more cost prices will come down.”

Confusion also arises for inv estors in trying to understand the difference between Isa and Pep investment rules and the pre-Budget report has introduced welcome changes here. The Pep rules are quite rigid compared with the flexibi lity offered through Isas. Peps are skewed towards Euro pean and UK stocks and current res trictions require investors to have 75 per cent of their port folio in funds investing at least 50 per cent in EU countries.

This leads to confusion about where Pep money can be invested and restricts the amount that can be committed to high-profile areas such as technology that are located predominantly outside Eur ope. Brown is now bringing investment restrictions on Peps into line with Isas, which this should improve flexibility and allow investors to invest in a larger selection of funds.

Hargreaves Lansdown inv estment manager Ben Years ley agrees that people should be able to invest Pep money as they would an Isa. He says: “It will simplify things and make Pep transfers a lot easier. This will be good news for investors as they can divers ify. The situation needed to be clarified in one way or ano ther and fortunately it has gone the positive way for investors.”

Many in the industry believe Isas have worked in spite of their design. Brown has decided familiarity leads to understanding. Investors will learn from their mistakes but the industry may need to be more vigorous when processing applications.

Brown is hoping investors will be more concerned with fut ure tax-free saving rather than past investments that turned sour. The industry has to cross its fingers and hope he is right.

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