DIY Investor Toolkit: it is sensible to think about your Isa as early as possible in the tax year, but there’s also another trick that investors should take advantage of.
As sure as night follows day, in the weeks following the end of the tax year various financial firms focus their attention on highlighting the benefits of investing your Isa at the start of the new tax year.
The argument goes that rather than rushing with most of the rest of the country to make use of the annual tax-free allowance before it evaporates on 5 April, it’s sensible to think about your Isa as early as possible in the tax year. That way, your money is in the market, growing (hopefully) and in many cases generating dividends for as much as an extra 12 months.
As Rebecca O’Keeffe, head of investment at interactive investor (our parent company), points out: “Choosing to subscribe to your Isa at the start of the tax year doesn’t eliminate the problem of market timing or uninvested cash, but it does mean you are less likely to get caught up in the last-minute rush.
“If you want to invest the whole amount straight away, then you have more time invested and can generate dividend income across the whole year. If you’re worried about the markets, you have the ability to take your time choosing when to invest your cash and can potentially be more diligent in selecting investment opportunities.”
Figures from Fidelity International demonstrate the benefits: if someone had invested their full Isa allowance into the FTSE All Share index at the start of each tax year since 2009, their pot would be worth almost £200,000. If they had waited until the end of the tax year each year, their Isa would be worth £179,600 – more than £20,000 less.
Such a strategy appears to have paid off for ii’s Isa millionaires. Head of personal finance Moira O’Neill reports that over half of those who invested their allowance in the 2018/19 tax year did so during April 2018, accounting for more than 40% of all Isa millionaire subscriptions. Non-millionaire Isa investors were much more likely to use their allowances at the end of the tax year.
Of course, most people don’t have a spare £20,000 – the current allowance – knocking about at the start of the tax year, any more than they do at the end of it. A more practical advantage of an ‘early bird’ approach, therefore, is that if you’re organised enough to set up a regular monthly savings plan, you can save a comfortable amount from income through the year.
Because you are not fully invested from the off, if the market makes gains over the year it’s less likely that you will enjoy the full uplift by investing on a monthly basis. A monthly saver in the Fidelity example above would have ended the decade with £192,500.
But against that, a regular plan does away with the risk that you might put your whole lump sum into the market just before a nasty dip – which is easily done when everyone is bullishly buying shares too, as anyone who lost money in the dotcom crash of 2000 will tell you.
Regular investing has other advantages for most investors. Importantly, once the plan is set up, you don’t have to think any more about it except to check from time to time that you are still happy with the fund or investment trust that you’re investing into.
Additionally, because contributions go into the stock market regardless of exuberance (when shares will be expensive) or mayhem (when they’ll be cheap), you are buying at a range of different prices. This means that you can benefit from an effect called pound-cost averaging, which (unless you’re investing through a bull market) means that you tend to end up with more units by drip-feeding over time than by putting in a single lump sum at the beginning of the period. And more units means greater growth potential thereafter.