UK Innovative Finance ISA (Account Options)

I’ll be honest, this isn’t one I’ve done a huge amount of research on, because I don’t see a good case for using one. I’ve just covered the basics below, for completeness and awareness. If anybody has found a good use for an Innovative Finance ISA in the portfolio of Americans in the UK, I’d love to hear from you, maybe do a guest post or something.

Synopsis

ISA for peer-to-peer lending – UK tax free, US taxable. I’m expecting that the US reporting will also be a pain, because of the nature of peer-to-peer loans (lots of small loans, small amounts of interest, a fair number of them defaulting, etc.). It might also be a PFIC 😦

Unless you’re really keen on peer-to-peer lending, I see this as more headache than it’s worth, and I definitely recommend you research how you’ll have to report on your US taxes before your invest.

Priority

None, unless you’re really keen on peer-to-peer lending and want to use some of your £20k ISA allowance for it.

Eligibility

All UK residents age 18+

Investment Options

Peer-to-peer lending only.

Risk & Return

Your savings are not guaranteed, because the people you lend money to may not pay it back. Typically better interest rates than a cash ISA, to compensate for this risk, but that’s offset by the chance of not getting anything at all.

Withdrawal Options

From an account perspective, you can withdraw anytime. In practice, I have heard reports of it taking weeks or months to find a buyer for the loans that you hold, so quick access is not assured. There may also be an early withdrawal fee, depending on the terms of the account.

Contribution Limit

£20k per year per person – this is pooled among all ISAs. So if you contribute £4k to a Lifetime ISA and £10k to a Stocks & Shares ISA, you only have £6k left in the limit.

Unless your specific account is “flexible”, withdrawals in a year don’t reduce the amount towards the cap. For example, if you deposit £10k then withdraw £5k, you can only deposit £10k for the rest of the year, not £15k.

Fees

Fees are built into the interest rates.

UK Tax Treatment – Contributions

Contributions are from after-tax money, no tax impact.

UK Tax Treatment – Withdrawals

No UK tax on the interest, which is hopefully higher than in a savings account or Cash ISA (but at risk!). The same caveat around the Personal Savings Allowance applies as with a Cash ISA – most UK taxpayers don’t pay tax on interest anyway.

US Tax Treatment – Contributions

Contributions are from after-tax money, no tax impact.

US Tax Treatment – Interest & Withdrawals

The interest will be fully taxable in the US (potentially offset by other passive category Foreign Tax Credits).

The tax reporting seems like it would be complicated, due to multiple underlying loans, some getting defaulted on, etc. I’d love to hear from any US taxpayers who have filed with an Innovative Finance ISA, it might not be too bad.

I’ve seen some discussions that this could be a PFIC, which would almost certainly be more headache than it’s worth. I expect this depends on how the specific account is structured – if you’re buying a “loan fund” instead of individual loans, this could be true. Buyer beware!

Further Reading

MoneySavingExpert on Innovative Finance ISAs

3 thoughts on “UK Innovative Finance ISA (Account Options)

  1. I have filed US tax returns for a Zopa investment account for a few years running, which included allowance for bad debts, etc. However, I’m in no way convinced that I did it correctly, so I was very happy when I finally pulled all my money out. I would personally not recommend this as a safe US/UK compliant investment option unless you really know what you are doing. If I was looking for a higher yield fixed-interest investment then I would instead look at buying individual retail bonds, but only those few listed on ORB. These are actually more liquid than most P2P investments and are priced on the secondary market, so you kind of know that you are getting what risk/return you are paying for (i.e. higher yield to maturity is directly proportional to risk, as assessed by a fairly liquid market. ORB bonds can be bought on most UK retail brokerage platforms, if you can find the correct code for them. For a list of these bonds, see: https://www.fixedincomeinvestor.co.uk/x/bondtable.html?groupid=3653

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    1. Thanks for the input, that matches up with what I was kind of expecting. I like the idea of P2P lending, but the US tax implications give me a headache – not enough reward to make up for that.

      Are you buying the individual retail bonds through an ISA, or fully UK and US taxable? I could see those being reasonably simple – I have a bunch of US savings bonds that my parents bought for me when I was much younger, and they’re relatively simple to manage for both US and UK taxes, even if the TreasuryDirect system is from the stone age. The interest rates today are terrible unless you hold at least 20 years for EE bonds so they double (then it’s a moderately attractive 3.5%). I hope I can do better than that in riskier investments for 20 years, but they’re a nice little earner now that only take about 5 minutes a year to manage.

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      1. Yes, you can buy the ORB bonds in an ISA. The interest is taxable in the US obviously. Typically they are bought above par, so there is no capital gain to report. Watch out, there are some very risky bonds at the highest yields, but there are some very conservative ones also paying better yield to maturity than cash savings accounts.

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