Cash ISAs are extremely popular with savers. It is easy to see why. You can save up to £20,000 a year in one and you never pay tax on the interest received.
This is particularly attractive for higher-rate taxpayers who have to pay tax on any interest income above £500 a year.
What’s more, compared to a stocks and shares ISA, cash ISAs can seem relatively risk-free. But that’s not really the case. In fact, holding your savings in cash could be riskier than investing over the long run.
Should you invest £1,000 in Cranswick right now?
When investing expert Mark Rogers has a stock tip, it can pay to listen. After all, the flagship Motley Fool Share Advisor newsletter he has run for nearly a decade has provided thousands of paying members with top stock recommendations from the UK and US markets. And right now, Mark thinks there are 6 standout stocks that investors should consider buying. Want to see if Cranswick made the list?
Risk/reward
Over the past 10 years, cash as an asset has produced a return of less than zero, after accounting for inflation.
According to data from the Financial Conduct Authority, around £635.7bn of British savers’ money is languishing in easy-access savings accounts, not earning more than 0% per year in interest. More than one-third of these accounts have been inactive for more than five years.
Cash ISAs, in particular, have developed a poor reputation for returns. According to analysis by Moneyfacts, 2017 was the worst ever year for cash ISA returns, with the average instant access account offering just 0.93%. On a full ISA allowance, this is equal to £186 a year in interest, which means that tax benefit does not get a chance to kick in.
And even if cash ISAs do protect you from the taxman, they don’t protect you from inflation.
The damaging impact of inflation
In 2017 the Consumer Price Index — the most widely used measure of inflation in the UK — averaged 2.6%. On this basis, the real interest rate — after deducting inflation — on an average cash ISA was -1.67% for the year. In other words, after adjusting for inflation, your hard-earned money would have lost value.
This is the primary reason why cash ISAs are not a sensible place to store your savings.
Over the past 10 years, low-interest rates have been extremely damaging to savers’ funds. The cost of goods and services has increased by 30.9% since 2008 meaning that your savings would have had to have been growing at a rate of 2.9% a year to keep pace with inflation.
According to my research, not a single provider has offered a cash ISA with this level of interest.
Shares are the way to go
In general, cash is perceived to be a safer asset than stocks and shares. And to a certain extent, this is true. However, for long-term savers, the evidence is clear, shares are the best way to go.
Cash stored in savings accounts or cash ISAs has lost purchasing power over the past decade. On the other hand, over the same period, the FTSE 100 has returned 7% annualised. That’s 4.1% after inflation. The Footsie 250 meanwhile has returned 8.1% after inflation.
It is difficult to argue with this evidence. Even though cash is perceived as being safer, the combination of low-interest rates and high inflation make for a toxic mix.
If you want to protect and grow your money, over the long term, investing in the stock market is a much better alternative.
