With a number of options available for individuals to save towards their future, choosing the right option for you can require research and product knowledge. Following this, it should be clearer to decide which is better for you. But is it actually? Let’s look at Pensions vs LISAs.
For those that have not started saving for retirement, there are different options becoming available. Some of these will be very familiar, whereas others may seem quite new and out of the ordinary to some. But which of these options actually suits your needs. Find out by reading more about Pensions vs LISAs.
What is a Pension?
“In simple terms, a pension scheme is just a type of savings plan to help you save money for later life. It also has favourable tax treatment compared to other forms of savings.” Pension Advisory Service
The earlier you start saving money for the future, the more you will have when you reach retirement age. A pension scheme helps you work the money you save a bit harder, with an overall aim of being able to withdraw more than the cash amount you have paid in.
For many people, they will hold a pension run by their employer. Each time their salary is paid, a certain amount is deducted and paid in to the pension scheme. Additionally, the employer will make a contribution also. Others may hold a personal pension that they have independently arranged themselves.
Who is eligible?
Everyone is eligible to contribute to a pension scheme. Even children can hold a pension. Automatic enrolment to an employer pension scheme does not commence until the age of 22, however those under this age have the right to opt in if they fulfil certain eligibility criteria.
Positives of a Pensions
- Employees receive an additional contribution from their employer. As mentioned above, automatic enrolment commences at age 22. However any employee can be enrolled as long as they earn £6136 annually.
- Basic rate taxpayers will receive 20% tax back paid directly in to their pensions scheme. Your pension provider will claim this tax relief on your behalf.
- Higher rate and Top rate taxpayers will receive an additional 20% and 25% tax relief respectively. This is collected via Self Assessment Tax.
Have a look at our article on Saving for Retirement for further detail on the positives of a pension.
Drawbacks of a Pension
With any savings plan, there are potential drawbacks. These are not always seen as negatives of a pension scheme however.
- The most notable drawback is that the invested funds within a pension scheme are not accessible until the age of 55. For those wishing to retire prior to the age of 55, this could be restricting.
- The growth and interest on Employee pension schemes can often be restricted in accordance to an employers attitude to risk.
- Investment performance can increase and decrease. Ideally a well invested pension would increase over time. However, with all types of investment, there are no guarantees. You can take Independent Pension Advice to support with pension management
What is a LISA?
“The Lifetime ISA (LISA) is a new tax-free savings or investments account designed to help those aged 18-39 buy their first home or save for retirement” Which.co.uk
The Lifetime ISA, introduced in April 2017, is a tax free saving scheme designed to help young people save towards their future. This includes either to purchase their first property or for retirement.
A Lifetime ISA can be opened at most high street banks or specialist providers. Aswell as the standard interest rates offered by the bank or provider, the Government will contribute a bonus £1 for every £4 that you have saved.
Who is eligible?
Any adult aged 18-39 is eligible to open a Lifetime ISA. However, depending on your current and previous home ownership status, the use of the fund within the account may be restricted.
Positives of a LISA
- You have the flexibility of choosing whether to use your savings towards the purchase of a first home (up to the value of £450,000 before the age of 60) or withdrawing the contents at age 60.
- The bonus is automatically paid on a monthly basis from the Government, which allows you to benefit from compound growth.
- Your savings are technically accessible at any age. Although it must be noted that if you withdraw the funds for any other reason other than turning 60 or for a home purchase, this is considered an unauthorised withdrawal and significant charges applied.
Drawbacks of a LISA
- The bonus is capped at £1000 per year.
- The amount you contribute to your Lifetime ISA sits within your overall ISA limit. If you have paid in to a different ISA, you need to ensure you do not go over the tax free limit, or be prepared to cover the tax contributions.
- If you need to make an unauthorised withdrawal, you will face a 25% penalty. This will not only impact the government bonus you have received, you will lose out on your own money invested (Exceptions are made due to terminal ill health).
- Although it is possible to transfer the funds from one Lifetime ISA to another. Transfer to any other type of ISA will be considered an unauthorised withdrawal and will be affected by the 25% penalty.
Pensions vs LISAs – Consideration #1
Looking specifically at the impact to Basic rate tax payers. When considering the tax reliefs and bonus available to a Pension and Lifetime ISA, both deliver the same economical incentive. The difference in financial outcome is likely to occur based on the investment strategies. A high street bank or provider will offer set interest rates for ISA products. Although the funds within a Lifetime ISA can be transferred to another Lifetime ISA with better interest rates. These may or may not be comparable with the interest rates available with a pension scheme provider or different types of ISAs
The impact on Higher rate and Top rate tax payers is slightly different due to the additional tax relief that can be claimed back via Self Assessment.
Pensions vs LISAs – Consideration #2
The contribution confines may limit some investors. Lifetime ISA contributions are limited to £4000 per year, whereas the pension tax relief annual allowance is £40000. Those who are in a position to contribute more, should opt for a Pension.
Pensions vs LISAs – Consideration #3
Access to both a Pension and Lifetime ISAs is restricted. Pension savings cannot be accessed until the age of 55. Lifetime ISAs are slightly different in that they can technically be accessed at any point for any reason. They do however face a significant withdrawal fee which negatively impacts the amount saved. The funds are available without a withdrawal fee if used for the purchase of a first home up to the value of £450,000. Or the account holder waits until they are age 60.
Pensions vs LISAs – Consideration #4
Those who are eligible to be part of an employers pension scheme will receive the added bonus of their employers contributions. In 2020, automatic enrolment to employers pension scheme will see employees contributing 5% of their gross earnings and employers contributing 3% of this amount. Or if the employee choses to contribute more, i.e. 4%, the employee would only need to contribute 4% themselves. A Lifetime ISA will see no one else contribute other, than the individual account holder and the government bonus.
Which do I choose?
The Lifetime ISA demonstrates itself as a fantastic product, which the majority of people are seemingly projected to use for the purchase of their first home. And although it is a product designed to help plan for the future, it may not always be the most appropriate place to save for the retirement.
A Pension scheme is a purpose made product, with only one function, to save for retirement. Although the access to the funds within are limited, it is a great vehicle to utilise as part of retirement planning.
For the choice of Pension vs LISAs, it is important to look in to the considerations as set out above and how they impact you individually. This includes looking at any employer pension contribution amount, the tax reliefs available for your tax band and any bonuses that are payable. Additionally to this, the interest and capital growth that is available through the two products. You may want to obtain Independent Pension Advice for further information.
If you have more questions on Pensions vs LISAs, you can contact The Harvest Partnership Ltd via phone or our contact for on the Contact Us page.