The government could bring a much-needed boost to UK markets with one simple, tax-neutral measure, argues Richard Staveley, manager of UK small-cap investment trust Rockwood Strategic.
ISAs are undoubtedly much loved in the UK, with more than 22m accounts and around £775bn in total assets, which exceeds the amounts saved into defined contribution pension schemes.
Why? It’s plain and simple – the tax break is highly attractive. Investors don’t pay income or capital gains tax on ISAs, meaning that any dividends or profits are tax-free. Compounding returns can be powerful, a key driver to building long-term savings and wealth. However, political tinkering has created a complicated landscape of multiple ISA variants and the original remit of ISAs’ forerunner (the PEP), which aimed to facilitate direct investment into the UK stock market, has been lost.
A healthy, robust stock market is critical for the future success of the UK. A transparent, well-regulated, large and liquid market for companies to scale and raise investment will enable home-grown talent and entrepreneurs to remain in, and drive the growth of, our economy. The market is populated by a very diverse range of businesses, employing millions, paying considerable corporation tax, VAT, Employer’s National Insurance and supporting huge networks of suppliers and professional service advisors.
However, for many years money has flowed out of our stock market; first into bonds to support changing pension liabilities and risk management requirements, secondly into global shares and thirdly into other asset classes altogether. Arguably, shiny new infrastructure investment will only deliver economic value if there’s sufficient demand from the private sector. The stellar recent returns from the US stock market have attracted capital and grabbed headlines, but the UK stock market, despite all this, has continued to produce positive real returns. The FTSE 100 has delivered a total return of 20 per cent in 2025, compared to just eight per cent for the S&P 500 (in GBP).
Cash vs stocks
ISA tax breaks have been mainly taken up to protect cash savings from taxes – an unproductive investment. Encouraging people to save more is a laudable goal, but for any long-term savings, there is no doubt that equity investment should feature more heavily and that it produces a higher, compounding, real return. According to Unbiased, the average stocks & shares ISA has returned 10 per cent per year over the last decade, compared to just one per cent for cash ISAs. It’s perhaps no surprise that the average stocks & shares ISA is now worth over £65,000 compared to under £14,000 for cash ISAs, according to AJ Bell. For those not in cash ISAs, many stocks and shares ISA investors are currently directing significant investment towards overseas markets. Investors may well be trading Nvidia or Microsoft shares, tax free, at the largesse of the British taxpayer, rather than supporting British-listed businesses.
These proposed changes are not “anti-free market” – investing in an ISA is a choice. The data is quite clear. The majority of ISA investors – around 80 per cent – have a few thousand pounds mainly in cash. The majority of ISA money comes from a minority of larger investors, attracted by the broader tax shelter. Over 800,000 individuals maximise their £20,000 allowance every year; redirecting this capital could result in a £16bn flow into UK equities, year in, year out. This is a completely tax-neutral policy for the Treasury that could trigger a virtuous cycle of valuation re-rating and enhance future returns.
Will investors be put off by a forced domestic bias? I don’t believe so. The tax break is too attractive. Will they be forced into an undiversified, narrow selection of companies? There are over 1000 to choose from – from small-cap success stories like Filtronic, whose share price is up almost 1500 per cent in the past five years, to large-cap stalwarts, to actively-managed investment trusts that can offer investors a portfolio of best-ideas opportunities within the UK market.
Counter-arguments highlight the fact that many UK-listed stocks and funds invest in or operate overseas, but these companies always generate some domestic economic activity, being headquartered here, and contribute to a vibrant, diverse market. People also complain about forced domestic bias, but there is no obligation to invest in an ISA. The moral contract should be reset: investors should get a tax break if they invest in our stock market.
Some powerful vested interests would rather their clients trade international shares, generating highly profitable FX fees, or invest in their overseas fund strategies
The idea of a British ISA was raised before and failed to get off the ground. I believe this was because its proposed size was not ambitious enough, it added to the complicated range of ISAs, rather than simplify it, and it was an additional tax break not a repurposing of the existing one. Furthermore, some powerful vested interests who would rather their clients trade international shares, generating highly profitable FX fees, or invest in their overseas fund strategies, came out in opposition. A number of building societies use Cash ISA investors as a cheaper source of funding. However, the fundamental idea is a good one: repurposing a measure encouraging individual investment and saving to the benefit of the UK economy and stock market. Those that know me personally know I am a patriot, and frankly this country will be worse off if the UK stock market continues to decline. My message to the Chancellor: it’s time to be bold. There is a simple opportunity to sustainably boost our markets. Cut the complication: existing ISAs should be allowed to run their course, but for future allowances, Cash ISAs should be reduced to £10,000, which won’t actually affect most people. Repurpose the remaining £10,000 allowance, or the full £20,000, into our great British stock market, before it is too late. This will catalyse a watershed moment that will be remembered both as a turning point for the UK market’s fortunes and as a major success story for this government’s ‘growth’ agenda.
Richard Staveley is manager of UK small-cap investment trust Rockwood Strategic