As someone who has a keen interest in finance, I know how important it is to start building wealth early. And as a young investor, I know I have time on my side. By making the most of all the tools at my disposal, such as a Stocks and Shares ISA, I have been working over the past few years to build a financial nest egg by my 40th birthday.
A tool for building wealth
I think ISAs are one of the best tools available for investors who want to build wealth. The principle behind these wrappers is simple. They were introduced to help encourage saving by offering attractive tax breaks. Any capital gains or income earned on assets held within one of these investment accounts does not attract any income or capital gains taxes. Further, managing these accounts is just a simple as managing traditional dealing accounts.
However, they do have a couple of crucial differences. Investors can only put away £20,000 per tax year into a Stocks and Shares ISA.
What’s more, investors can only buy assets trading on what is known as a regulated stock exchange. Until recently, this excluded AIM stocks, although this restriction has now been removed. In the simplest sense, a regulated exchange is any developed market stock index.
This provides a vast range of assets for investors to buy. From investment trusts specialising in renewable energy here in the UK to space tourism companies in the US, it is possible for any investor that has a Stocks and Shares ISA to build a globally diversified portfolio of assets and achieve substantial tax benefits at the same time.
The tax benefits are particularly attractive. As a basic rate taxpayer, I have to pay tax of 7.5% on any dividend income over £2,000 (increasing to 8.75% next year) as well as capital gains tax, on the sale of any assets. The level of this tax can vary depending on tax reliefs and other factors.
As a result, these taxes can take a significant chunk out of my savings. But by investing through a Stocks and Shares ISA, I do not have to worry about paying capital gains tax when I sell high growth investments. Neither do I have to worry about paying dividend tax on income.
Stocks and Shares ISA tax benefits
The impact these tax benefits can have over time is significant. If I earn £5,000 a year and dividend income, after the £2,000 dividend tax-free allowance, I will have to pay 7.5% on the remaining £3,000. That gives a total of £225. If rather than paying this money in tax, I invested it in an asset yielding 6% and left it to grow for 25 years, it could grow to be worth £1,000. This is just an example to illustrate the point. Nevertheless, I think it shows how valuable just a few £100 in tax savings every year can be.
Of course, this is an illustration based on my personal tax situation. Every investor should always check their own tax situation before making any investments. Investing in a Stocks and Shares ISA may also not be suitable for those with a lower risk tolerance.
Still, I am comfortable with the level of risk involved. That is why I am using this approach to build wealth up to my 40th birthday, and beyond.
