Older savers topping up individual savings accounts (Isas) following the Budget increase in the annual limit to £10,200 could receive lower interest rates than on their existing balances, experts warn.
Banks and building societies may pay “two-tier” rates from October – when the increase takes effect for the over-50s – to savers adding to cash Isas they have already taken out this tax year.
HM Revenue & Customs (HMRC) this week confirmed that there will be no obligation for Isa managers to match rates on existing balances for the additional £1,500 that older savers will be able to put into 2009/10 cash Isas.
“Isa managers are very unlikely to offer higher rates on top-ups,” said Kevin Mountford, head of savings at Moneysupermarket.com. With current rules restricting savers to one cash Isa per tax year, “providers will see this as captive business and some will take advantage of the situation,” he added
The concern is likely to fuel criticism that, with interest rates at record lows, the chancellor’s increase in the Isa allowance offers limited benefits. Even at the highest available cash Isa rate of 3.61 per cent, interest on an extra £1,500 amounts to just £54 annually. Of this, the tax saving would be £22 a year for a higher rate taxpayer.
The increase in the £7,200 Isa allowance was the main highlight for savers in this week’s Budget. As part of the new £10,200 limit, savers will be able to put up to £5,100 into a cash Isa to earn tax-free interest, up from the current £3,600 limit.
Over-50s can make additional contributions to 2009/10 Isas from October 6. Everyone else will have to wait until the new tax year in April 2010 to take advantage of the higher allowance.
HMRC said that rates on top-ups in the autumn “will be a commercial decision” for managers. “What the government gives with one hand, the industry could take away with the other,” said Mountford. The sums involved in any “shortchanging” of individual accountholders would be just a few pounds. “But it would undermine the Budget initiative [to help older savers hit by low rates].”
He said that savers with fixed-rate Isas or those with introductory bonuses could be particularly at risk of lower rates on their top-ups.
National Counties Building Society, which offers a 3 per cent fixed-rate Isa, said it might take any “hit” on funding costs by giving the same return on the extra contributions. But Adrian Coles, director-general of the Building Societies Association, said: “If institutions were obliged to offer the same fixed rate, a lot wouldn’t accept top-ups.”
“It would be unreasonable to expect institutions to commit to paying the same rate in six months on additional investments,” said Adrian Lloyd, compliance director at the Banking Code Standards Board, an industry watchdog,. “But if an institution offered a derisory rate, we would look at this on fairness [grounds].”
Savers planning to take out cash Isas before the autumn might want to choose a provider they thought would “play fair” on rates, he added.
However, HMRC said it was consulting with the industry on how top-ups will work. One possibility is that savers could put the extra contributions into an Isa with another provider. This could boost competition for top-up cash.
By contrast, top-ups of stock market Isas should be straightforward. And in spite of the limited short-term benefits of the allowance increase, experts said that Isas should be particularly attractive for wealthy investors facing income tax rates of 50 per cent from next year. Isas’ combination of tax-free interest, no capital gains tax and no higher rate tax on dividends could build up to a substantial tax saving over time.
“The benefit of the increase will come through in the long-term,” said Ben Yearsley, investment manager at Hargreaves Lansdown, an Isa firm.
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