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Roth IRAs vs Stocks and Shares ISAs: What’s Better for You?

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Oct. 11 2021, Published 6:24 a.m. ET

Individual savings accounts, or ISAs, are one of the best ways for U.K citizens to invest or just save money. They’re very similar to the IRA accounts that Americans have. Among the most common types of ISAs are stocks and shares ISAs.

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A stocks and shares ISA has similarities to a Roth IRA, as you can save cash and use that money to invest in different types of securities. Those who have a stocks and shares ISA also don’t pay taxes after they withdraw their funds.

What is a stocks and shares ISA?

A stocks and shares ISA is a type of investment account for U.K. citizens to invest their money in. The money a person puts into that type of ISA can be used to make investments in trusts, shares, ETFs, mutual funds, bonds, and more. Investment accounts can be self-managed, handled by a bank and brokerage, or even be robo-operated, where investments are made automatically.

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People who use an investment ISA will never have to pay tax on any income or capital gains that their investments accrue, or any interest their cash earns. This is mainly because the contributions made to a stocks and shares ISA is an after-tax contribution. U.K. residents also don’t have to pay taxes on stocks and funds that pay dividends.

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The limit on yearly contributions for any type of ISA is 20,000 British pounds ($27,197). However, you can split the contributions among different types of ISAs. Any cash that’s put into the investment account can be withdrawn at any time. You can also sell your investments for money and withdraw them if needed.

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What other types of ISAs are there?

The most common types of individual savings accounts are investment ISAs and cash ISAs, but there are other types as well. A cash ISA is a basic savings account, where some financial platforms will offer higher interest rates than others. Then there’s a lifetime ISA, where you can contribute a maximum of 4,000 pounds ($5,446) to the account, and the U.K. will add a bonus of 25 percent of whatever you saved that year.

Lifetime ISAs can hold cash or use savings to invest in stocks. The savings can only be withdrawn if you’re purchasing your first home, for retirement, or if you’re terminally ill. Otherwise, the account holder will face penalty fees for withdrawing.

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There's also an innovative finance ISA, which allows users to invest in peer-to-peer lending, peer-to-business lending, and crowdfunding. This allows someone to lend money to peers, businesses, and startups. In return, the lender will gain back interest when paid back. The interest that gets paid back is tax-free.

Can a U.S. resident open a stocks and shares ISA?

American residents cannot open ISAs, but U.S. citizens who permanently reside in the U.K. are allowed to. The downside for those U.S. citizens is that they’ll have to pay taxes on dividends and capital gains made from investments, assuming that the account generates interest. Even though U.K. citizens do not have to pay these taxes, the IRS can find out the interest gained on an ISA.

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