The Treasury has revealed plans for the UK’s new ISA regime, which will see it tax interest on cash held in stocks and shares ISAs at 22 per cent, prompting fierce backlash from industry figures, who argue that the decision is “riddled with unintended consequences”.

HMRC updated the market on three rules that will create the core of its ISA reforms from April 2027, as part of the government’s push to encourage more Brits to invest in the stock market.

The rules include the flat-rate 22 per cent charge applied to any interest or alternative finance paid on cash within non-cash ISAs.

Non-cash ISAs will also be unable to be fully invested in “cash like assets”, dubbed money market funds, with those which are 100 per cent invested to be classified as non-qualifying investments.

Cash-like investments “will be defined as money market funds only”, with ISA managers required to report their market value “via the established end of year statistical return”.

HMRC also confirmed that transfers from non-cash ISAs into cash ISAs will not be permitted, but savers will still be able to transfer money from cash ISAs into investment accounts.

But the reforms have been met with significant uproar from industry figures, who have argued that it makes the tax-free wrapper less incentivising, and could discourage first-time investors.

Industry uproar

Rachel Vahey, AJ Bell head of public policy, said: “Rather than minimise friction between saving and investing, these reforms reduce flexibility, entrench the divide between cash and investment accounts and introduce tax charges and complex age-related allowances. 

“Riddled with unintended consequences, the reforms do little to encourage new investors. Faced with increasingly complex ISA rules, many would-be investors will stick with what they know: cash.”

Katie Horne, savings expert at Flagstone, also argued the restrictions stop investor’s from making decisions that best suit their own needs and in some cases could be left without vital funds.

She said: “Measures like this curtail the freedom savers have to make the sorts of savings and investment decisions that suit their own individual needs. For many, the decision to keep cash in a stocks and shares ISA is a temporary one, or one that’s made to suit a very specific set of personal requirements.

“Likewise, moving funds from a stocks ans shares ISA into a cash ISA product is a well-worn process that thousands of ISA savers use to derisk at points in their lives when certainty over the value of their funds is essential. 

“Any added complications to the taxation element of investing in stocks and shares ISAs may have the unintended consequence of penalising those savers who don’t have access to financial advice and potentially discourage the very savings culture the government is trying to encourage.”

Budget shakeup

The new moves come in the wake of the sweeping overhaul to the system in last year’s November Budget, which saw Rachel Reeves slash the cash ISA ceiling to £12,000 from £20,000 for under 65s.

Tuesday’s announcement confirmed that over 65s will continue to benefit from the higher cash ISA limit.

The restrictions on holding cash inside investment ISAs are intended to stop savers from using the accounts as a way of getting around the rules, in a wider government attempt to drag Brits away from cash to increase savings outcomes and boost the domestic economy.

Simon Harrington, Head of Public Affairs at PIMFA, said: “We remain disappointed that the government has chosen to introduce such draconian anti-avoidance measures and, by extension, further complexity into the ISA regime, with little to no evidence that consumers will behave as these measures assume.

“We remain sceptical that these changes will have any real effect on consumer investment behaviour and fear they will do the opposite.”

Further problems?

Brian Byrnes, director of personal finance at Moneybox, also argued issuing restrictions prior to the changes taking effect next year risks creating further problems and confusion.

He said: “Given the new £12,000 Cash ISA limit will not take effect until April 2027, any anti-circumvention measures should be considered only after at least a full tax year of behavioural data has been collected.

“Introducing restrictions before we have a clear picture of how consumers are actually using the new regime risks creating friction for millions of savers to solve a problem we do not yet fully understand.

“At a time when millions of people still lack the confidence to start investing, making Stocks & Shares ISAs more complex than Cash ISAs risks giving people another reason to stay in cash rather than take their first step into investing.”

But Alex Campbell, director of external affairs at Freetrade, argued that what “looks to be a genuine compromise on cash-like investments” is “welcomed”.

Campbell said: “The reintroduction of pre-2014 rules on cash like investments… would have been a step backwards. Those rules were messy and led to numerous lengthy debates over qualifying assets.

“A simple test whether or not such funds comprise 100 per cent of a portfolio may appear to offer a simple workaround, but in reality if consumers are taking the steps to move cash into a stocks and shares ISA they have already overcome significant hurdles that many face to investing.”