Why IFISAs Offer Superior Returns Over Traditional Savings Options
This is a financial promotion and is intended to provide information, not investment advice.
In a world of low interest rates and inflation eroding the value of money held in traditional savings accounts, savvy investors are increasingly looking for alternative ways to grow their wealth. One such option gaining significant attention is the Innovative Finance ISA (IFISA). Offering potentially higher returns than Cash ISAs and other traditional savings accounts, IFISAs are a relatively new addition to the ISA family. But how do they compare, and why are they emerging as a superior option for investors?
In this blog post, we’ll explore the key differences between IFISAs and traditional savings products, highlighting why IFISAs offer superior returns and how they can be a valuable addition to your investment portfolio.
1. What Is an IFISA?
An Innovative Finance ISA (IFISA) is a type of ISA that allows individuals to invest in peer-to-peer (P2P) loans and other alternative finance products while enjoying the same tax-free benefits as traditional ISAs. Unlike Cash ISAs (which hold your money in a savings account) or Stocks & Shares ISAs (which invest in the stock market), IFISAs provide an opportunity to invest in P2P lending, enabling you to lend money to businesses or individuals and earn interest on these loans.
Since its introduction in 2016, the IFISA has attracted investors looking for higher returns than the often modest rates available through cash savings accounts. Through platforms like easyMoney, investors can lend their money to property-backed loans, earning competitive interest rates while enjoying tax-free returns.
2. IFISAs vs. Traditional Savings Accounts: The Return Advantage
The primary reason that IFISAs offer superior returns over traditional savings options lies in the interest rates. In today’s economic environment, the interest earned on Cash ISAs or corporate savings accounts is often below the rate of inflation, meaning that money sitting in these accounts is effectively losing value over time.
Average Returns on Cash ISAs
Cash ISAs, while low-risk, offer some of the lowest returns in the investment landscape. As of October 2024, interest rates for Cash ISAs typically range between 2% and 3%, depending on the provider and the term of the account. While these accounts provide security and liquidity, the returns are often insufficient to keep pace with inflation.
Returns on IFISAs
On the other hand, IFISAs can provide returns of up to 10% per annum in certain circumstances with the majority of target rates between 5.5% and 7% (as per October 2024), particularly when investing through platforms like easyMoney, where loans are backed by UK property. These higher returns make IFISAs a more attractive option for investors willing to take on slightly more risk than a traditional savings account offers.
Why the Difference in Returns?
The key reason for this difference lies in the nature of the investments. Cash ISAs typically hold deposits in savings accounts, which are subject to the interest rates offered by banks, often dictated by the Bank of England’s base rate. In contrast, IFISAs involve P2P lending and other alternative finance models, where investors directly fund loans to borrowers. Because you’re bypassing traditional financial institutions, the interest rates tend to be higher, reflecting both the greater risk and the direct relationship between lender and borrower.
3. The Power of Compound Interest
One often overlooked advantage of IFISAs is the ability to reinvest interest through platforms that offer monthly interest payments. When you reinvest your returns, the power of compound interest takes effect, helping your investment grow more quickly over time.
How Compounding Boosts Returns
For example, an investor who earns 8% annual interest on a £10,000 IFISA investment and reinvests the interest monthly will see their investment grow faster than if the interest is not reinvested. Over time, the compounded growth can make a significant difference in the total value of the investment, especially compared to a Cash ISA where the interest is typically added once per year and at a lower rate.
By taking advantage of monthly returns and reinvesting them into new loans, IFISA investors can significantly enhance their overall gains, making it an appealing option for those looking to grow their wealth.
4. Tax-Free Status: Maximising Your Investment
Like all ISAs, IFISAs come with the benefit of tax-free returns. This means that the interest earned on your P2P loans is not subject to income tax, allowing you to keep more of your money working for you.
Tax-Free Benefits Compared to Traditional Investments
In the case of Cash ISAs, the tax-free benefit applies, but the lower interest rates often make the tax-free status less impactful. For higher-yielding investments like IFISAs, however, the ability to earn interest tax-free can significantly boost overall returns, particularly for higher-rate taxpayers. In this sense, the tax-efficient nature of IFISAs helps magnify the difference in returns when compared to taxable traditional savings options.
5. The Security of Property-Backed Loans
One of the primary concerns for investors considering an IFISA is the risk associated with P2P lending. After all, lending money directly to individuals or businesses inherently carries a higher risk than placing your cash in a savings account. However, platforms like easyMoney mitigate these risks by offering loans that are secured against UK property.
Property-Backed Loans Explained
In the event that a borrower defaults on their loan, the property serves as collateral, reducing the likelihood of investors losing their capital. This additional layer of protection makes property-backed P2P loans one of the more secure ways to benefit from the higher returns offered by IFISAs.
While all investments carry some level of risk, easyMoney’s focus on secured loans provides an attractive balance of risk and reward, making it a safer option than many other P2P platforms.
6. Risks of IFISAs vs Traditional Savings
Although IFISAs offer higher returns, they also come with higher risks than traditional savings accounts, where your deposits are typically covered by the Financial Services Compensation Scheme (FSCS). However, in return for this added risk, investors have the potential to earn significantly more on their investments.
Default Risk
The primary risk in an IFISA lies in the potential for borrower defaults. Unlike a bank savings account, where your funds are guaranteed up to £85,000 by the FSCS, investments in IFISAs depend on the borrower’s ability to repay the loan. However, by choosing platforms that specialise in secured loans, such as easyMoney, you can reduce the impact of default risk on your investment.
Illiquidity Risk
Additionally, IFISAs typically involve investing in loans for a set period, which means that your money may be tied up for months or even years. If you need to access your funds early, it may not be possible without incurring penalties or waiting for a secondary market to match a new investor to your loan.
In contrast, Cash ISAs provide immediate access to your funds, making them a more liquid option. However, investors seeking higher returns in exchange for some illiquidity may find IFISAs to be a more attractive choice.
7. The Future of IFISAs and Why Now Is the Time to Invest
With ongoing economic uncertainty there has never been a better time to explore the benefits of IFISAs. As interest rates on savings accounts remain low, and inflation continues to erode the value of cash holdings, investors must consider alternatives to ensure their money grows.
8. How to Get Started with an IFISA
Getting started with an IFISA is relatively straightforward. Here’s a step-by-step guide to help you begin:
1. Choose a Platform: Select a reputable IFISA provider like easyMoney that specialises in property-backed loans to reduce risk and maximise returns.
2. Open an IFISA: Open an account online, ensuring you have the appropriate identification and funding available.
3. Invest Your Funds: Once your account is set up, choose which loans to invest in, focusing on secured options to balance risk and return.
4. Reinvest Earnings: As you start receiving monthly interest payments, reinvest your earnings to take advantage of compound interest and accelerate the growth of your investment.
Conclusion: Why IFISAs Offer Superior Returns
In comparison to traditional savings options like Cash ISAs, Innovative Finance ISAs (IFISAs) offer significantly higher returns, especially when investing in property-backed loans through platforms like easyMoney. With the ability to earn interest rates of up to 10% per annum (as per October 2024), the tax-free status of IFISAs makes them an attractive option for investors seeking to grow their wealth.
While IFISAs come with added risk compared to traditional savings accounts, choosing the right platform and diversifying your investments can mitigate these risks. With the possibility of budget changes on the horizon, now is the time to act and secure your tax-free, high-return investment opportunities through an IFISA.
Past performance is no guarantee for future results.
Tax treatment depends on the individual circumstances of each investor and may be subject to change in the future.