If you max out an ISA for 25 years and achieve an average annual growth rate of 5%, you’ll reach ISA millionaire status. A lucky handful of investors are lucky enough to be in that position. But can the average investor ever come close to that milestone?
It’s all about sticking to the basics: start investing early, maintain or increase your contributions, and stay invested during tough times. Combine these with finding the right investment growth (and a bit of luck) and you should be on the way to a very healthy ISA.
How can I become an ISA millionaire?
Becoming a millionaire is quite an achievement. Having an ISA means you can achieve this in less time because you won’t pay tax on income or capital gains. What habits should you get into to become an ISA millionaire?
Maximise your contributions
The size of your ISA portfolio depends on how much you invest and how much return you generate. So the more you can invest, the greater your money can grow.
If you choose the right investments, contributing a small regular sum can soon grow your pot. What is important is to start as soon as you can.
Use the stock market to your advantage
It will take far longer to become an ISA millionaire if you leave your money in cash. Interest rates on cash are generally below the rate of inflation. So ISA holders look to the stock market for better returns.
The longer you can invest, the greater tolerance of risk you are able to have. Accepting a higher risk strategy can lead to generating higher returns.
Investing £20,000 each year with 5% annual growth would take you to £1million in 25 years. It would take 21 years at 7% growth, and 34 years at 2%. This is why long-investors avoid holding cash.
Be consistent, patient and disciplined
The stock market will always rise and fall. It might be tempting to jump ship when the market turns against you, but holding firm might be the better option.
It might seem counter-intuitive at the time, but long-term patience pays. Leaving your money invested and adding to it allows compound interest to build up in your favour.
Few can predict how the market will behave, but committing to ride the high and lows tends to provide a better result.
Use dividend reinvestment
When you invest in funds, you are given the choice between ‘accumulation’ units and ‘income’ units. Accumulation units automatically reinvest any money earned back into the investment, while income units transfer any growth to your bank account.
If you invest in individual shares, many investment platforms offer an automatic dividend reinvestment service.
The decision to reinvest income will come down to personal circumstances, but it can be an effective way of boosting your money’s earning potential – especially over time with compound interest.
Think about diversification
Looking at the habits of ii’s own ISA millionaires, we see that diversification has been key to their success. Although comparing the millionaire ISA holding to others, we see a skew towards investment trusts:
(Data source: interactive investor, ISA holdings as at 15 February 2021)
Investment trusts have historically tended to outperform funds over the long term. 2020 saw the largest example of that outperformance with the FTSE Equity Investment Instruments Index (FTSE EII) producing a total return for the year of 17.8%.
Remember that this trend is never guaranteed. In fact, the one thing you can be sure of is that there will be rough patches along the way.
Read more: ISA millionaires: how they did it
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