An ISA is a type of account that primarily provides the account holder with tax relief on the interest one earns over a certain invested amount or saved funds. It is an acronym for Individual Savings Accounts. Under ISA, one is not liable to pay taxes over the earned interests. Sometimes, ISAs are also referred to as ISA wrappers or ISA covers. There are four different types of ISAs – Cash, Stocks and Shares, Innovative Finance, and Lifetime. All these ISAs organized for different purposes and work differently. One of them is Innovative Finance ISA(IFISA) that provides a tax-free cover for the interests earned from peer-to-peer investments.
Peer-to-Peer lending or Peer-to-Peer investment is the type of lending between a lender and a borrower without the involvement of any third-party financial institution. This absence of an intermediary financial institution makes it quite lucrative for the investor. The investor can earn high interest and thus maximize his income. But this income after hitting a certain income threshold makes the investor liable to pay taxes. IFISA provides a tax-free cover for a Peer-to-Peer investor that enables him to earn returns from interests incurred from Peer-to-Peer investments.
After the boom of Peer-to-Peer investment, the investors revamped all the existing ISAs to entertain Peer-to-Peer investments. After the increasing demand for amendments to existing ISAs to facilitate Peer-to-Peer lendings, the government announced that Innovative Finance ISA is to be introduced in the summer of 2015 budget. However, IFISA was formally first introduced on 6th April 2016. Prior to the fiscal year, 2018/19 the tax-free ceiling was around £15,240. Under this aforementioned amount, one could earn tax-free returns over interests earned from Peer-to-Peer interests.
How Does IFISA work?
The working of IFISA is quite similar to other ISAs. Like Peer-to-Peer lending, one could not simply lend his money to a borrower but also invest it into other three ISAs. From lent money or invested in other ISAs one could earn interest. For the fiscal year, 2020-21 one could invest up to the full £20,000 into his single IFISA account or multiple accounts and can earn tax-free interest. Since this market is evolving and growing each day, to accommodate Peer-to-Peer investments more efficiently, new rules have been introduced. These rules are vastly related to the transfer and withdrawal of money from your account and are yet to be determined.
Requirements for IFISA:
An individual is eligible for IFISA investment if he is earning interest from peer to peer lending. The other requirements are almost the same as all other investments, for example, an adult UK resident with a registered homed address, phone number, and active bank account, etc.
Who does provide IFISA?
IFISA is in its nascent phase and it will take some years to gain momentum. Limited investors have expanded their portfolios with this service. However, its market is growing. All Peer-to-Peer lending platforms are capable of providing IFISA investment services. Once you have started earning profits, then you are eligible for reinvesting these profits into IFISA. Different platforms provide you with different interest rates. For example, Zopa allows you to generate profit with an interest rate between 2% to 5.3%. Additionally, another provider like Kuflink provides a steady 5-year plan, under which you can earn up to 7% interest annually.
Pross and Cons of IFISA:
Like every investment, IFISA also has some benefits and risks.
- Simple to set up an IFISA account
- The easily accessible and speedy investment process
- Legally protected by FCA
- Can be invested manually with more control or automatically with the guarantee that your investments will always be invested
- Interest is tax-free
- Existing ISAs could be transferred to next year allowances which provides you further tax relaxation
- You can invest as much as you want in non-ISA Peer-to-Peer ventures
- Limited to no liquidity
- Limited tax relaxation
- Not protected by Financial Services Compensation Scheme (FSCS) which compensates investor with up to £85,000
- Susceptible to cybercrimes if the platform is not secured
- Prone to borrowers default and fraud
- Reliability of the platform
- Slower withdrawal of returns
- Funds contingency risk if investor lends all his allowances to a single borrower
Every investment renders an investor certain profits. And when those profits reach a set limit one is liable to pay taxes. Additionally, if these profits remain uninvested then you may squander away all profit-earning chances. However, certain financial schemes do not only help you evade taxes legally but also allow you to reinvest your returns and maximize your profits. IFISA is the financial scheme that allows you to reinvest your profits earned from Peer-to-Peer lending. You can earn profits at higher rates within a tax-free cover.