While Cash ISAs continue to be significantly more popular than Stocks and Shares ISAs, it’s the latter that offers a higher chance of becoming a millionaire in the long run.
In fact, the best returns available on a Cash ISA at present are around 1.5%, while the stock market has historically offered annualised returns in the high-single digits.
Furthermore, the tax appeal of a Cash ISA has declined in recent years, while the prospect of higher inflation could mean it fails to offer the long-term spending power a Stocks and Shares ISA may provide.
Tax changes
While a Cash ISA previously offered appealing tax advantages versus a bog-standard savings account, today they’re largely ineffective for many people. That’s because the first £1,000 of interest income received outside of a Cash ISA isn’t subject to income tax. As such, an individual would need to have £67,000 or more in a Cash ISA that generates a 1.5% return in order for it to be worthwhile from a tax perspective when compared to a savings account.
By contrast, the lack of dividend tax and capital gains tax in a Stocks and Shares ISA means it has significant appeal from a tax perspective. It could save an investor significant sums of money in the long run – especially since the tax-free allowance for dividends received outside an ISA each year now stands at just £2,000.
Return potential
With interest rates close to historic lows, it’s perhaps unsurprising a Cash ISA offers a disappointing return at the present time. The best interest rates that can be achieved on a Cash ISA are around 1.5%, which is below the rate of inflation. Although there’s scope for them to move higher over the long run, this is likely to be prompted by a higher rate of inflation. As such, they may always lag inflation, meaning investors see their wealth fall in real terms.
Meanwhile, a Stocks and Shares ISA could offer a significantly better return profile over the long run. The FTSE 250, for example, has posted a total annualised return of over 9% in the last 20 years. That’s despite recent threats such as Brexit holding back the index’s performance relative to international comparators, such as the S&P 500.
Risks
Although investing in shares is riskier than having a Cash ISA, over the long run the risk/reward opportunity offered by a Stocks and Shares ISA appears to be highly attractive. Since many investors have a long-term time horizon, investing in a diverse range of FTSE 100 and FTSE 250 stocks could prove to be a better idea than a Cash ISA. The tax advantages, higher returns and the prospect of beating inflation may lead to a better financial future, as well as an increased chance of making a million.