Do investors really want Osborne’s flexible Isa?

Current rules state if an investor decides to make a withdrawal from their Isa, this has no impact on their overall allowance. If they wish to replace the money, it will count as a new, further subscription, which will eat into any allowance they have remaining.

From next tax year, Isa managers will be able to amend their terms and conditions to allow an investor to replace all or some of the cash they have withdrawn in any year without the replacement counting towards their annual Isa subscription allowance. The withdrawal may be made as a cash lump sum or could be in the form of dividends automatically paid to the investor’s bank account. The new flexibility will not be extended to Junior Isa accounts.

Withdrawals will first be set against current year subscriptions, effectively increasing the investor’s remaining allowance for that tax year. The flexible Isa manager monitors the amount clients can pay in by recording the “net” value of current year’s subscriptions. Net subscription = current year subscriptions – total withdrawals in tax year.

Withdrawals of current year’s subscriptions can be replaced in any Isa. If the amount withdrawn exceeds the amount subscribed to the Isa in the current tax year, the excess is treated as a withdrawal of previous years’ subscriptions. Previous year withdrawals can be replaced but only to the Isa account from which they were withdrawn.

For clarity, if there are no withdrawals within a tax year, the subscription allowance operates in the same way as a non-flexible Isa.

Where the account has been transferred after the withdrawal was made, the right to replace this cash is generally lost.

Case study: Martin

In 2016/17 the subscription limit is £15,240 and Martin decides to:

  • Subscribe £10,000 on 1 May 2016
  • Withdraw £5,000 on 1 October 2016
  • Subscribe £3,000 on 1 November 2016.

The net subscription allowance remaining for 2016/17 is £7,240. This can be made to this or another Isa.

Case study: Alison

In 2016/17 Alison withdraws £11,000 from her Isa account on 1 May 2016. As she has not yet subscribed in this tax year, this counts against previous years’ subscriptions. The £11,000 withdrawn can only be replaced within the same Isa. Alison’s remaining original allowance of £15,240 can be subscribed to this or another Isa.

Case study: Jane

In 2016/17 Jane:

  • Subscribes £10,000 on 1 May 2016
  • Withdraws £15,000 on 1 October 2016.

Of the amount withdrawn, £10,000 is counted against the current year’s subscriptions and the excess £5,000 against previous years’. Jane can only replace the £5,000 withdrawal (relating to previous years’ subscriptions) within the same Isa. She also has a remaining current year allowance of £15,240 to subscribe to this or another Isa.

If Jane subscribes £3,000 on 1 November 2016 she can replace another £2,000 (previous years’ subscriptions withdrawn) within the same Isa. Jane still has her remaining current year allowance of £15,240 to subscribe to this or another Isa.

When a client has withdrawn both current and previous year subscriptions and replaces any subscriptions, the replacement is deemed to replace any previous year’s subscriptions first.

A question of demand

Echoing the question marks surrounding the secondary annuity proposals, demand is a big unknown. HM Revenue & Customs has published potential costs of Isa flexibility to the Exchequer but has also confirmed to us it did not make an explicit assumption about the number of individuals who might withdraw and replace Isa wealth.

The way the rules are drafted may provide a helping hand for those waiting to see how the market develops. If an Isa manager implements flexibility at a date later than 6 April this is effectively backdated to that date, so any withdrawals made by investors earlier in the tax year can be replaced before the tax year-end.

Cash Isa investors seem the obvious group to want to take advantage of the flexibilities, as it may help them to make best use of interest rates on offer. However, with venturing into investment markets widely accepted as a long-term strategy, the same may not be true of stock and shares Isa investors.

Any financial planning clients will no doubt have liquid capital available in the case of unforeseen circumstances, so are these clients also out of the mix?

Cash Isa investors looking to understand the rules may struggle for assistance from their banks. A Which? mystery shopping exercise last year raised concerns over the lack of knowledge of the basic Isa rules among customer services staff, with over half the institutions contacted unable to answer even 50 per cent of the questions correctly.

So we have uncertainty around providers’ ability to help investors and, more importantly, questions over whether investors want or need it. Is this change for change’s sake?

Let’s hope the tinkering associated with pensions does not start to creep its way over to the Isa rules. The last thing we need is yet more fear of complication to undermine the incentive for people to save more.

Charlene Edwards is technical resources consultant at AJ Bell