With the suite of ISA wrappers having expanded in recent years, questions have been raised as to whether this increasingly complex choice of ISAs is both relevant and useful to savers and investors. But before we get into explaining why we think the Innovative Finance ISA stands out, consider the current environment for both investments and savings.
1. Mixing it up
Political uncertainty, both in the UK and further afield, is beginning to weigh heavy on financial markets which have, until recently, been enjoying one of the longest bull runs in history. And turning to cash isn’t quite the same safe haven it once was, with many British savers suffering poor returns as a result of sustained low interest rates and high inflation.
Diversification is an important consideration for investors in almost any situation, but it becomes an increasing concern during times such as these. This is where the IFISA can come in, as it offers access to companies and projects that are not directly correlated to the volatility of stock markets.
An IFISA allows tax-free access to either unlisted corporate bonds or peer-to-peer (P2P) loans, neither of which can be held in any other ISA wrapper.
It is one of the latest to arrive in the market, along with other recent launches including the Lifetime ISA. Despite this flurry of new ISAs, the most well-known is still likely to be the cash ISA, although its favourability has declined rapidly in recent years.
Opting to house cash savings outside a cash ISA wrapper would free up space to shelter higher potential returns from tax. Returns such as those available through unlisted corporate bonds on the Downing Crowd platform, for example, typically offer interest rates of 3-7.5 per cent a year.
As the penny drops, and cash ISAs become less popular, more people appear to be turning to stocks and shares ISAs, with over £28 billion subscribed in the last tax year – marking another record high. Leaving the security of cash savings to plough money into a stocks and shares ISA is a significant leap in terms of risk and volatility, but the introduction of the IFISA has created a distinctive and potentially attractive alternative that sits apart from the two.
New IFISA investors may be understandably less familiar with how to assess risk when it comes to selecting unlisted corporate bonds or P2P loans to hold in the wrapper, or indeed which IFISA provider to trust with their money.
Identify the rate that the borrower is paying, as this can provide an indication of how risky the investment is compared to the rate of return offered to lenders. Also find out what fees you are paying and when. Is the IFISA provider charging a fair amount and are they more aligned with you or the borrower? For example, some platforms make their fee contingent on investors getting their capital back and interest paid in full.
The bigger the loan or bond, the more due diligence would typically be expected. Check what has been done for you and any research you may need to do yourself, and also see whether a third party has carried out any analysis of risk.
Find out if the loan or bond is ‘asset-backed’ or ‘secured’, as this can be a good way to manage risk. If not, it’s also worth checking if there are other lenders and if your loan is ‘senior’ to theirs, meaning you get paid first. A healthy ratio between the size of the loan or bond and the value of the borrower’s assets, often referred to as the loan-to-value (LTV), is often a good sign. The ‘value’ is key, so find out if a professional valuation has been completed by an investment management firm or third-party valuation.
Capital is at risk and returns are not guaranteed. Crowd bonds are not readily realisable and are not subject to the same protection from the Financial Services Compensation Scheme (FSCS) as deposits. The value of investments and any income derived from them may go down as well as up and investors may not get back the full amount invested.
Any personal opinions expressed are subject to change and should not be interpreted as investment advice or a recommendation.
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