How ISA tax rules are changing from April 2027

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In a big shake-up to ISAs, it was recently announced that a new flat-rate charge of 22% will be applied on interest paid on cash within a stocks and shares ISA from the start of the next tax year on 6 April 2027. 

The change will be implemented at the same time as other previously flagged changes, including a lower cash ISA allowance of £12,000 for those under the age of 65, and a ban on transferring a stocks and shares ISA to a cash ISA. 

To unpick all the details, including what the rules say about money market funds, and to run through the implications for investors, Kyle is joined by Craig Rickman, personal finance editor at interactive investor.

00:00-00:30: Intro 
00:30-03:00: Explaining new tax on cash interest held in a stocks and shares ISA 
03:00-07:20: Can money market funds be held? 
07:20-11:06: The role of money market funds in a portfolio 
11:06-11:43: Why tax on cash interest in a stocks and shares ISA is 22% 
11:43-17:27: Implications of taxing cash interest in a stocks and shares ISA 
17:27-19:59: A new ISA plan for first-time property buyers 
19:59-21:01: Outro

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Kyle Caldwell: Hello, and welcome to our latest On The Money podcast, a weekly show that aims to help you make the most out of your savings and investments.

Today, we’re going to cover how ISAs are going to change from the start of the next tax year, which is 6 April 2027. Joining me to help tackle this topic is Craig Rickman, personal finance editor at interactive investor. Craig, thanks for coming on.

Craig Rickman: Thank you very much for having me, Kyle.

Kyle Caldwell: So, Craig, some of the rule changes for ISAs were already known. However, there was a big announcement last week, which is that there will be a new flat-rate charge of 22% on interest paid on cash within a stocks and shares ISA or an innovative finance ISA.

Could you first explain why that’s been introduced and why it’s part of the government’s efforts to try and turn us into a greater nation of investors?

Craig Rickman: Yeah, sure. So, let’s go back to the Autumn Budget 2025. Chancellor Rachel Reeves announced that the amount that you could put into cash ISAs every year if you’re [under] 65, would drop from £20,000 a year to £12,000 a year from 6 April 2027. What’s underpinning that change is, as you say, this desire to foster a retail investing culture in the UK.

The government was concerned that people were keeping long-term wealth in cash, and that was more prone to the effects of inflation and wasn’t growing as quickly as it could if it was invested. 

So, what they’ve decided to do is shrink the cash ISA allowance, which means that if you want to use your full ISA allowance every year, you would have to put at least £8,000 into a stocks and shares if you’re under age 65.

But what the government is concerned about, and flagged a few weeks after announcing that change, was that people could get around the rules. They could circumvent them and they could game the system by investing in cash or cash-like assets within a stocks and shares ISA.

So they’re effectively still investing in cash, which isn’t helping the government’s aim to foster retail investing culture.

We should add as well that that’s not the only aim of this. It’s also to try and boost the UK economy as well. 

But, anyway, the government is concerned, and that’s been the big announcement this week of these rules to try and deter people from using cash or cash-like assets within a stocks and shares ISA and to invest the money instead.

Kyle Caldwell: However, there is good news for investors in money market funds. So, these fund own a diversified basket of low-risk bonds, high-quality bonds that have short lifespans, typically a couple of months. 

The level of income generated by these funds by the underlying investments held within them is typically around what UK interest rates are. So, at the moment, you can get a yield on a money market fund of 3.75%, typically.

Now, there were fears that money market funds would be caught up in this. And if there was to be a tax imposed on cash in a stocks and shares ISA, as you say, that money market funds [would] be part of that.

However, the rules that came out last week indicate that you can still invest in a money market fund, provided that you don’t [hold] a 100% of those funds in the stock and shares ISA. So, the rules indicate that as it is at the moment, there’s going to be no tax to pay on money market funds?

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Craig Rickman: Yes, but there are several complications to these new rules. I mean, yes, it’s good news on the surface that if you’re not investing a 100% of your portfolio in money market funds, that they are going to fall outside of this definition or that you’re not going to pay this 22% tax charge on any interest.

But there are various things about this, about these rule changes that have made things pretty complicated and it means that investors inevitably will pay more attention to what they’re doing within their stocks and shares ISAs and how they’re using various assets because they’re going to want to avoid paying a tax charge when they don’t have to.

Kyle Caldwell: I’m just going to read out what it said in the announcement, and you can look this up online - it’s called the ‘ISA reform 2027 anti-circumvention rules factsheet’.

What it says is that “Cash-like assets will be eligible for non-cash ISAs provided that they are partial allocations and do not make up a 100% of the investments in an individual’s non-cash ISA accounts. From April 2027, cash-like assets will be defined as money market funds only and will require ISA managers to report their market value via the established end-of-year statistical return.”

So, my interpretation of this, which I know you share as well, Craig, and it’s how it’s been widely reported, is that you could, in theory, put 99% of a stocks and shares ISA in a money market fund, and then 1% in any particular investment if you want to, and that would still be allowed under these rules?

Craig Rickman: Yep, yep. That’s my interpretation as well. So, effectively, if you’re under 65, you could put £12,000 in your cash ISA, £7,900 in money market funds, and then a £100 in a UK equity fund, and that’s OK. There wouldn’t be any tax to pay on the interest that you receive from your money market funds. So, an interesting way of doing it.

Kyle Caldwell: I mean, as loopholes go, this is probably the easiest one I’ve ever seen in my life for people who want to try and exploit it. 

However, as we know with loopholes, if too many people exploit them, they do tend to be closed over time. And it did say in the announcement that a technical consultation with industry on the draft legislation will commence shortly and that the regulations will be laid out in the autumn, and new rules will come into force from 6 April 2027.

So, time will tell. For all we know, there could be changes to the rules that were set out last week. But at the moment, as it stands, it does appear that you could put 99%, if you wanted to, into a money market fund in your stocks and shares ISA.

Now, in terms of the role of money market funds in a portfolio, a lot of investors do invest in them. In the main, people view them as a temporary place to park some cash. For instance, you might be a bit wary of stock markets being volatile over a short period, or you might be deciding where to invest next.

In the meantime, you’re parking cash in a money market fund. But some people like to have a larger allocation to money market funds at certain points of their investment journey. For example, de-risking a portfolio ahead of retirement.

Also, if you’re quite close to hitting a specific goal. For example, if you’ve been investing to try and get on the property ladder and you’re quite close, you might think you don’t want to subject your investments and the returns made to the volatility that is a natural part of investing. Instead, you’ll play it safer, and put it into a money market fund.

Craig Rickman: Absolutely that, yeah. There can be reasons to either hold, like you say, a portion of your portfolio [in money market funds], or in some cases perhaps the whole lot if you need to use the full amount for a specific purpose. It’s essentially any situation where you have no capacity for loss, where you can’t afford for the value of that money to fall because that could jeopardise the goal that you’ve been saving or investing for. So, yeah, they’re a very natural and sensible asset class for investors of all stripes to use within their ISA portfolios.

Kyle Caldwell: At the moment, given where UK interest rates are, money market funds are offering inflation-beating income. However, that’s not always been the case. If you invested in money market funds when interest rates were at rock-bottom levels, that was not an attractive place to be at all.

We don’t know where UK interest rates will be in five or 10 years’ time. But if they are a lot lower than they are today, then the prospective returns on money market funds will be lower as well.

I think investors do generally understand money market funds, and they know that they’re not something to simply buy and hold for the long term. Also, if you put too much of a portfolio in them, that can come at the expense of capital growth over the long term, because you’re not investing in a growth-producing asset, such as what a global index fund or a global equity fund will give you.

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Craig Rickman: Absolutely that, yeah. Any successful investor appreciates that any money held in cash or a cash-like asset like money market funds, if they’re held over a long period, then they’re more vulnerable to the corrosive effects of inflation. That’s fairly well understood.

I think this idea that people will just use cash and cash-like assets within their ISA if they’re under 65, I’m not sure that will come to pass. Of course, that’s an option for people, but I think the vast majority who do have the ability to fill up their ISA every year, and I think a lot of the research shows as well, that they tend to invest it.

Kyle Caldwell: I completely agree. I think it’s a potential useful component as part of a well-diversified portfolio. Going back to the 22% tax on cash within the stock and shares ISA, Craig, could you explain how the government’s arrived at the 22% figure?

Craig Rickman: Sure, yeah. It sounds like a bit of an arbitrary figure, doesn’t it? The 22% represents the basic rate of tax that you will pay on savings interest from the next tax year. So, the tax year when these ISA reforms kick in.

So, the tax on savings rates are increasing by two percentage points across the board for the basic, higher and additional rate. The basic rate will be 22%, so that’s how the government has got to that figure.

Kyle Caldwell: In terms of other potential questions and implications of tax and cash within a stock and shares ISA, a couple I thought of included the fact that whenever you sell any investments, the proceeds go into cash. Some investors will know straight away what to invest in, but others might want to take their time. So, does that mean, depending on how long you’ve put the money in cash for and the interest you’ve earned over that period, that you’re going to be taxed on that? It looks like that anyway.

Also, some people towards the end of the tax year put x amount in to make use of the ISA allowance before the tax year ends, but they haven’t decided what to invest in. So, they temporarily park some cash, and then decide at a later date what to invest in. Is that then going to impact those people? Are they then going to be taxed on that? I just worry that this tax will punish prudent investors.

Craig Rickman: Yes. There are a few problems that have been raised with these reforms, and that’s one of them, that people making sensible and natural decisions within their portfolio, you know, using cash, could end up paying tax. It creates this rather confusing mess of ISAs and how they work.

For at least the past 10 years, providers have been able to market them and say you pay no tax on capital gains, no tax on dividends, no tax on interest. Before 2016, interestingly, you did pay a bit of tax on the dividends. There was a 10% tax credit that was charged and providers couldn’t reclaim it. That was removed as part of a big overhaul to the dividend tax regime. 

But for 10 years, you haven’t paid tax on dividends. But how is [ISA taxation] going to be communicated now, is it that there’s no tax on interest? Maybe, but you could pay tax on interest like we’ve been speaking about. So, it just makes things very, very confusing.

In addition, if you’re under age 65, you can’t transfer from a stocks and shares ISA to a cash ISA, but if you’re over 65, you can. So, there are quite a lot of rules for people to grasp, and also to be aware of how they can change over time without any further policy changes, just that the rules can change once you hit a certain age of 65.

Kyle Caldwell: Yeah, for me, I think it’s a real shame that ISAs are no longer as straightforward as they once were. I think if you put barriers up, it will put people off ultimately. If you’re trying to convince someone to invest for the first time, it’s a lot easier if you can say, look, there’s this great product. It’s called a tax-efficient ISA [and] you don’t pay any tax on any gains that you make or interest you earn. But obviously, from next April, you can no longer say that because there will be the tax on cash within the stocks and shares ISA.

Craig Rickman: Well, yeah, you could have a scenario where you’re paying tax in the tax wrapper and you’re not paying tax outside the tax wrapper.

For example, say you held a 100% money market funds, so you get penalised. Any interest that you receive is taxed, then you’ve got money outside of your ISA, but that interest is covered by your annual savings allowance, the amount that you can earn every year in interest tax free. For a base-rate taxpayer it is £1,000, for a higher-rate taxpayer it is £500. If you’re an additional rate taxpayer, you don’t get a savings allowance.

So, it’s quite possible that you could have a situation where you promote a tax wrapper, ‘grow your money tax free and receive your interest tax free’, but in fact, you could end up paying more tax than if you’d held the money outside the tax wrapper because the savings allowance - keep following me with this - can’t be used within the ISA wrapper.

So, that’s a tricky thing for people to understand and going back to the point you made around it being more complicated, could that put people off investing in a stocks and shares ISA? Because they’re not clear on the amount of tax that they might pay. They might think, well, do know what? I’m going to keep saving because I know how it works.

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Kyle Caldwell: Just going back to the comment you made about money market funds if you’ve got a 100% in them, that you may get taxed. We don’t actually know whether that’s going to apply at the moment. We don’t know whether it’s like an outright ban that you can’t invest in them if you’ve got a 100%, or if you will then be taxed if you do.

For me, this just makes it all confusing, and I think the sooner we can get clarity on what these new rules are going to be, the better, and it’ll give investors more time to actually plan accordingly.

Craig Rickman: Absolutely, yeah. I think that’s it. There’s a lot of confusion about exactly how this will work. I mean, we’ve only seen the details for a few days and had a bit of time to digest them.

There wasn’t lots and lots of information in there. I guess there didn’t need to be. But, yeah, there has been a bit of confusion around the interpretation of these rules.

Kyle Caldwell: So, we have multiple ISAs, different rules, depending on your age, whether you’re over 65 or under 65. We also now have the cash part of a stocks and shares ISA facing a 22% tax charge. So, Craig, how do we then make the ISA system even more complicated?

Craig Rickman: Sounds like the set-up to a joke.

Kyle Caldwell: Well, it’s actually the set-up to the final part of this podcast. The way you make it more complicated is you create a new ISA, and that’s what the government is considering doing. This is for first-time buyers on the property market. So, could you explain what the shape of this new ISA may be?

Craig Rickman: Sure, yeah. It’s probably best to first talk about what this ISA is effectively replacing. 

So, it’s something called the lifetime ISA, which has a dual purpose. You can use the money to buy your first home. If you don’t use the money to buy your first home, you can use the money for your retirement or you can access it at age 60 more specifically. The government recently said that they’re going to look to overhaul the product and replace it, and now we’ve got a bit more information about what’s going to replace it. 

To try and keep this fairly succinct, this is called a first-time buyer ISA. As you can probably tell, the retirement savings element of the LISA, that’s being put to one side, and this is purely for buying a first home. To be honest, the further information on this is really, really light. We don’t know what the subscription limits are going to be. 

Just to go back to the lifetime ISA, the big benefit with it is that you get a bonus on what you put in. So, you can put in up to £4,000 a year, and you get a 25% bonus. That’s the big carrot with it. But for this new product, we don’t know how that’s going to work.

We don’t know what the maximum property value will be. That’s been a real sticking point with the lifetime ISA. It’s £450,000 and it has remained that way for a long time, and that’s apparently caused problems for lots of buyers who wanted to use the LISA to buy a home. So, we don’t know those elements of it and there’s some other things we don’t know as well.

There’s a consultation running. They’ve said that details will be announced at a future fiscal event. So, the earliest that we will find out more about this will be this year’s Autumn Budget, which will be held in October or November.

Kyle Caldwell: So, Craig, I think we’ve covered off all the bases for now on the information that we have available on these ISA changes, some of which are going to take effect from April 2027. Thanks for coming on.

Craig Rickman: Thank you very much for having me.

Kyle Caldwell: That’s it for the latest episode of our On The Money podcast. I hope you’ve enjoyed it. We love to hear from listeners and if you have a question that you would like the team to tackle, then please do get in touch. The way to do so is by emailing: OTM@ii.co.uk.

In the meantime, you can find plenty of analysis related to personal finance and investments on the interactive investor website, which is ii.co.uk. I’ll hopefully see you again next Thursday.