Whether it’s stocks and shares or cash, the contribution limit for an ISA is £20,000 per year. Depositing that each year and earning a 3% compound annual return tax-free makes a millionaire after 30 years.
Finding that kind of money to deposit isn’t straightforward. But for those aiming for a million, is it better to stick to cash or think about equities?
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Cash
There’s a lot to like about Cash ISAs. The chances of losing money are much, much lower than a Stocks and Shares ISA and there are some nice interest rates available right now.
The best one that I can find offers just over 5% per year – enough to turn £20,000 per year into £1m within 25 years. The question though, is how long this will last.
Cash ISAs have generated an average return of just over 1% for the last five years. And at that level, getting to a million with £20,000 per year becomes virtually impossible.
I’m certainly not anti-Cash ISAs — in fact, some of my best friends have them. But I suspect getting to a million is likely to require a higher return than those things are going to offer.
Equities
In my view, the answer to the question of whether a Stocks and Shares ISA is better is that it depends. Specifically, it depends on what someone is planning on putting in it.
There are plenty of shares I’m not buying for my ISA. There are even some stocks that I think might be worse opportunities than keeping my money in cash over the long term.
Fortunately, I don’t have to buy everything. I can stick to shares that I expect to offer a much better return than cash over the next few decades – such as Diageo (LSE:DGE).
Right now, Diageo returns the equivalent of 3.5% of its share price to shareholders each year in cash. While this is below the current 5% the most generous Cash ISA offers, it’s much higher than the 1% average.
Diageo
The threat of US tariffs on imported goods could be a big challenge for Diageo. It’s the company’s largest market and there’s no way to produce Scotch whisky outside of the UK.
Nonetheless, I think investors who have a long-term view of the stock should be able to look past this difficulty. For one thing, the potential for higher taxes might not be permanent.
Equally, Diageo has some leading brands in important categories. And this should give it the ability to offset at least some of the effect of higher taxes by increasing its prices.
Ultimately, I think the firm’s strengths are durable. So I see concerns over issues that may last a few years as an opportunity to make an investment that could help me on the road to a million.
Aiming for a million
I suspect becoming an ISA millionaire by sticking to cash is going to prove impossible over the next 30 years. The returns right now are undeniably good, but history suggests this won’t last.
With a Stocks and Shares ISA, I think the returns come down to the investments someone chooses. In my case, Diageo is a stock I intend to keep buying to try and build wealth over time.
