How to pick the best Cash ISA

Picking the best Cash ISA is not just a question of finding the best rate from moneysupermarket.com, because the best cash ISAs aren´t on any comparison sites - you get a better rate by doing your own. Although the headline rate for June 2011 is 3.15% p.a. from a building society like Birmingham and Midshires it is possible to get 5% tax free by lending money to Barclays Bank. Nobody advertises it because there is no commission nor marketing charges. You just have to know what to do. This is our guide.

The trouble with a Cash ISA is that they drop the headline rates after the first year, and so your nestegg gets a little cracked. A do-your-own ISA is simply one you open with a stockbroker and invest in what you like. The good part of this egg is that you can lock in a high rate for years, and never bother to transfer from one ISA to another. The bad is that you have to think a little more about what to buy the first time round.

You can use only £5,340 p.a. [2011] to buy a cash ISA, but you can invest £10,680 in a ´DIY´ stocks and shares ISA. Both grow tax free, but the Cash ISA is protected by the Compensation Scheme up to £85,000 and the stocks and shares ISA is protected up to £50,000. You might ask 'why are we talking about a ´stocks and shares´ ISA?'

Any ISA that invests in a fund marketed in the UK pays tax because the fund always pays tax. Any ISA that invests in a UK or European share which pays a dividend also pays tax, because the ´dividend credit´ (mis-nomer for ´we have already taken this chunk of tax´) is not reclaimable. So when everybody writes about ´tax free´ in reference to an ISA, your most appropriate response is a wry grin, and nod wisely, because you understand that the ISA can´t reclaim tax that has already been deducted. But the DIY stocks and shares ISA is different. It can be truly tax free: just as a Cash ISA is, by investing in securities that do not deduct tax at source on the dividend, such as a Eurobond.

Let´s say you were thinking of buying a Barclays Cash ISA and you look up on their web site you can get a rate of 3.2% after tax. That is not a promised rate, just a current one. Alternatively, you say to your stockbroker 'Please supply a list of Eurobonds issued by Barclays Bank plc which mature in five to ten years and confirm I can buy them within my ISA' and then pick out one or two which yield over 5% to maturity. A Eurobond is a loan to a company, Gorernment or institution (and many banks like Barclays borrow from the Eurobond market): and as long as you don´t pick a security which is undated, unsecured or subordinated, in normal times when we´re not in the middle of a bank crisis, people tend to regard them as safer than shares. However, that´s why you ask your stockbroker to confirm the current safety rating for ´Barclays´, just in case they´re going the way of AIB, Northern Rock, Lehman Brothers, the Iceland banks, and most Greek or Portugese banks. And in case you´re thinking ´I can´t take this kind of risk´, ask yourself where you were about to invest your Cash ISA. The same place, right?

Actually, if you´re feeling adventurous and you understand how to evaluate the risk of banks that are illiquid, you can get 10% yield tax free from Irish Bank AIB Mortgages. Or the old Northern Rock bank, now renamed. If your stockbroker is not familiar with Eurobonds, you can do your own research at

http://www.boerse-frankfurt.de/EN/index.aspx?pageID=107

Now the next question usually is ´how do I keep an eye on it? When do I sell?´ Your wrap account gives you a valuation web site, so that´s how you keep an eye on it and for least fuss, don´t sell. Let it mature. When the Bond matures, your bond gets redeemed at 100, if they´re still financially viable. If your Bond matures in 2018, well, wait to 2018. You can sell in the meantime but the market price does go up and down according to sterling interest rates. You have to buy a bond with more than five years to go to maturity, and you have to buy a bond issued by an EU organisation, according to the HMRC ISA rules. When buying you won´t pay that outrageous bid/offer spread that retail investors commonly pay on unit trusts and fund based ISAs of 5% but you will pay 1%. Just make sure it´s not any more than that. And you won´t be paying annual charges because there is no fund.

If you feel uncertain, keep asking questions until you´re clear: it´s worth the extra 2% p.a. especially if you have £100k in ISAs.

© copyright 2011-2012 Fee-Only Planning Ltd. Best Money Decisions, all rights reserved. Excerpts may be quoted with full acknowledgement by prior agreement. This Money Tip is not advice you can rely upon alone for making decisions: always seek professional advice. This is not an incentive to buy or sell any security. This type of research information is only available for those who have passed the Competent Investor Quiz at the end of our book.