Savers Face Triple Challenge as Rachel Reeves Introduces Cash ISA Trap

As we approach the Spring Statement on March 26, there is growing concern that the Labour Chancellor, Reeves, may reduce the Cash ISA allowance from £20,000 a year down to just £4,000. If this idea wasn’t being considered, one would have expected her to clearly announce that already.

Investment managers in the City have been urging her to make it more difficult for savers to keep their money in cash, suggesting that it should be shifted towards stocks instead. She seems to be responding to that pressure, stating to reporters that while there is currently a £20,000 limit for contributions into cash or stocks, she wants to find an ideal balance between them.

This statement can be seen as a subtle way of signaling her intentions, indicating a preference for promoting investment in stocks to help savers achieve better returns. She mentioned her desire to foster a culture of retail investing in the UK, similar to what exists in the US, which suggests a push towards investing rather than saving in cash.

While I understand and can support the idea behind investing in a Stocks and Shares ISA, it’s important to recognize that this approach doesn’t suit everyone. Many older savers, particularly those in their 70s and 80s, might not want or need to take on that kind of risk. They have worked hard over their lives to build their savings and shouldn’t be made to feel pressured into risky investments.

We will know more on March 26 about what Reeves will decide. Regardless, it’s evident that savers are facing a challenging situation. The Labour Chancellor is also tackling other issues behind the scenes, and if she proceeds with lowering the Cash ISA limit, it will signal a three-fold approach that seems designed to gain more from savers.

The Cash ISA is not the only method for saving without paying tax. Interest from regular savings accounts also benefits from the Personal Savings Allowance (PSA). However, this allowance has its limits. Basic rate taxpayers, who pay a 20% tax rate, can earn £1,000 in interest annually without incurring a tax charge. For those in the higher tax bracket (40%), this allowance drops to £500, and it disappears entirely for anyone paying the additional rate of tax at 45%.

These limits have been frozen since the PSA was introduced in April 2016. Meanwhile, inflation has rendered these thresholds less effective for today’s market. The savings rates, which were nearly zero back in 2016, have now climbed to 4% or 5%. This situation has resulted in a significant number of individuals facing tax on their savings interest. According to AJ Bell, more than two million taxpayers are now caught in this predicament, which has tripled in just three years. Alarmingly, many of these individuals are not wealthy; a significant portion consists of basic taxpayers, most of whom are pensioners who have accumulated their savings over years of work.

This sets the stage for the first front in the Chancellor’s strategy. The second front was announced in her budget last October, where she confirmed that the freeze on income tax thresholds would remain in place until 2028. Originally a Conservative policy, this now works in Labour’s favor. With wages and pensions increasing, many individuals will find themselves pushed into higher tax brackets because of this freeze, resulting in a reduction of their PSA.

If one is pushed into the 40% tax bracket, their PSA will reduce by half, and it will vanish completely if they enter the 45% tax bracket. Cutting the Cash ISA limit would serve as the third and final piece of this strategy. If Reeves follows through with this plan, savers will face significant challenges.

It does make one wonder if the Chancellor is more astute than anticipated or simply pursuing a hidden agenda.