Welcome to the first in a series of six guides written and produced in partnership with Dozens. These guides will set out everything you should consider as you set up your savings and make investments for the future – and, most importantly, how to take action today.
These guides contain some specific tips for British Finimizers. If you’re in the US or somewhere else, never fear – we’re hoping to bring you your own special content very soon 😉
What if you had to live for twenty years without any income – only what you had saved in the bank, plus whatever you could find down the back of the couch? Paying for housing and essentials might become a struggle; and you could probably forget about ever eating out or going on holiday again.
It’s a question more and more people in the UK have to answer – we’re living longer than ever. Today, the average Brit is expected to live another 20 years beyond the current retirement age of 65. And just squirreling money away – either under the bed or in the bank – probably won't be enough to see you through, thanks to a pesky thing called “inflation”.
Inflation is the rate at which the prices of goods and services are increasing. Rising inflation means one pound buys less, and is therefore worth less, with each passing year. In other words, unless they're earning interest, your savings will lose their value over time. For example, annual inflation of 3% would halve the value of your cash in just 24 years – so if whatever you’ve saved is earning little or no interest, it’ll fall dramatically short of what you need come retirement.
Inflation doesn’t just risk eroding the value of your retirement kitty: if you were saving towards a house deposit, £10,000 would be worth only £8,600 after just five years of 3% annual inflation.
Saving isn’t enough 💰
Don't just preserve. Grow.
True “saving” involves preserving (and perhaps even growing) the value of your money – and that means making sure its value is rising by at least as much as inflation. Achieving that will always involve some level of “investing” – either on your part or on someone else’s (like a savings account provider). So here are a few steps that you can take to make your money work harder:
Pick an “investment wrapper” – something that brings together several investments in one place, aiming to keep things simple and reduce the amount of tax payable on any gains. The most popular UK wrappers are Individual Savings Accounts (ISAs) and Self-Invested Personal Pensions (SIPPs). There are various types of ISA – more on these later…
Figure out how much you have to put aside at first, and how much you’re able to add to this, say, monthly. You should also think about the levels of risk you’re willing to take, perhaps bearing in mind how soon you want to access your money again. In general, the longer this window, the more risk you should be able to tolerate. Because – while things can very much go down as well as up – you’ll have more time to bounce back from any short-term losses you might encounter.
Strike a balance between saving, investing, and trading. Within your wrapper, decide how much you want to put in a simple savings account – and keep an eye out for those offering interest rates that are higher than inflation. Then consider how much you’re willing to invest – with the aim of growing that pot of money significantly over the long term, as smallish annual gains build up into something quite impressive. And think about whether or not you want to “trade” – making bets on investments’ changes in value over a short period.
Decide how you’re going to “rebalance” your investment portfolio. Rebalancing is a process whereby you reset your holdings after market movements. For example, a portfolio of 50% stocks and 50% bonds might end up with 55% of its value in stocks and 45% in bonds after a few months, if the value of stocks rose and bonds fell. An appropriate rebalance would see you sell stocks and buy bonds to bring it back to 50-50. You can make these adjustments yourself, or have it looked after by a robo-advisor or wealth manager – or go for a mix of all three.
Finally, choose a provider that best fits your needs. Different providers will suit different people, depending on whether you intend to be hands-on, have access to professional investment advice, or simply prefer to hand your investing over to an algorithm.
It may sound daunting, but never fear – Finimize is here. And over the coming months, we’ll be guiding you through each step in detail. By the end, you’ll have a clear idea of just what to do with your savings – as well as how to go about it.
In this first of six guides, we’ll dig into step one – investment wrappers.
Choosing an investment wrapper 🎁
Make your savings tax-efficient
Investment wrappers – a.k.a. “tax wrappers” – bring together several investments under one roof and reduce the amount of tax payable on any gains. In the UK, there are several tax-efficient wrappers to choose from. The two most popular are ISAs and pensions.
Individual Savings Accounts (ISAs)
Any money you make from an ISA is, crucially, completely tax-free. You’re allowed to invest up to £20,000 each year into this sort of tax-free account – and there are different types, depending on your goals:
Cash ISAs are the simplest type of tax-free savings account. You agree to lock your money up for a “fixed term”– and in exchange for not being able to access your dough instantly (without incurring a fee), banks will offer you higher interest rates. You can choose instead to add and withdraw money at will, but the interest on offer will probably be lower.
Stocks and Shares ISAs offer a tax-free way to invest your savings, via government-approved investment platforms, in whatever takes your fancy. They’re especially helpful if your portfolio’s doing well, allowing you to keep more of your gains for yourself.
Lifetime ISAs are designed to help under-50s save toward their first home or retirement. They also offer – get this – free money: the UK government offers a 25% bonus on the amount you put in each year. Note that you’re only allowed to put £4,000 of your annual allowance towards this type of account each year, however.
Innovative Finance ISAs promise no tax on returns from peer-to-peer investments made through government-approved platforms. Returns are typically double those you'd get from a Cash ISA – but the risk involved is higher, too.
Help to Buy ISAs offer tax-free savings on up to £12,000 total, with the caveat that you use this money to buy your first home (and that you can’t pay into a Cash ISA in the same year). When you do, the UK government will give you a 25% bonus on whatever you’ve saved.
Junior ISAs allow you to save money on your children’s behalf. These have an annual investment limit of £4,280, which is in addition to your own allowance.
A last word on the ISA: use it or lose it! Your annual ISA allowance can’t be carried over to the following tax year – so if you don’t use part of it, it’ll disappear when your allowance resets each April.
One rule of thumb when deciding your tax wrapper is: if you have an ISA allowance available, use that first.
Investing your pension
Once you’ve exhausted your ISA allowance, the next-best tax wrapper is your pension – as long as you don’t need access to this money before retirement, of course.
Contributions you make to your pension come straight out of your paycheck and don’t attract any income tax up front, making them “tax efficient”. However, when it comes to withdrawing your cash in retirement, you’ll have to pay some tax. This will probably be less than if you were still working – and your “personal tax allowance” will let you get at least some of your money out each year completely tax free.
Many companies offer employees the opportunity to have their pension contributions matched each month. Depending on the amount of influence you have over it, your pension can be thought of as just another investment: that money is put into a fund and managed on your behalf.
You may well be better off maximizing your pension contributions before you do any direct investing yourself – and you may want to consider looking at putting these contributions into a Self-Invested Personal Pension (SIPP), which gives you more control over how your money’s invested.
A SIPP allows you to pool together pensions from previous jobs, as well as any private policies you may have, and invest that money however you'd like. You can select and manage your investments yourself, or instead have a professional investment manager make the decisions for you. Managing your pension in this way can become expensive, however – so mind you aren’t stung by high fees.
Saluting the General (Investment Account)
A General Investment Account (GIA) might be a good fit if you’ve maxed out your annual ISA allowance and still have cash kicking around, but only if you want to get access to that money before retirement. That’s because investments within a GIA incur taxes on any returns you receive – i.e. dividends and interest – as well as on any gains made if the value of your investments rises – a.k.a. “capital gains”.
There are some allowances: depending on how much tax you already pay elsewhere (e.g. on your salary), you might be eligible for a Personal Savings Allowance, which relieves you of tax payments on some or all of your savings’ interest income. The same is true of the Dividend Allowance, up to a certain limit.
If you’d prefer to avoid the risk of losses involved with a GIA – perhaps because you’re saving towards financial goals within the next three years (the “short term”), you may be better off putting money into a non-ISA savings account. These too attract the tax man – but only for any interest earned beyond your Personal Savings Allowance. As we mentioned earlier, keep an eye out for savings accounts that offer inflation-beating interest.
Take action 🤑
What next? Remember the rules
Step one in figuring out your future finances is protecting the value of your money from inflation. We’ve considered some options for doing that in a tax-efficient way, while making sure you can get access to your cash if and when you need it.
Remember these rules of thumb:
In most cases, it probably makes sense to go for an ISA first
If you’ve used up your annual ISA allowance and don’t need access to your cash until retirement, it’s worth considering investing via your pension (or a SIPP)
If you might need access to your money sooner, then look into opening an inflation-beating savings account or a GIA.
That’s it! Keep your eyes peeled for the next guide in this series, where we’ll be tackling the second step in figuring out your future finances: determining how much you have to put aside at first – and how much you’re able to add to this regularly.
This guide was produced in partnership with Dozens.