Introducing the Lifetime ISA
In the month’s leading up to the March 2016 Budget, the odds were heavily in favour of George Osborne scrapping pension tax relief in favour of a Pension ISA. This radical change was quietly dropped a few days before the budget amidst rumours that the Chancellor had been told not to upset the backbenches ahead of the EU referendum.
Instead of the Pension ISA, he introduced the Lifetime ISA (LISA). The UK’s sixth ISA product looks like a hybrid Help to Buy / pension scheme. The government will pay a 25% bonus on contributions of up to £4,000 each year (equivalent of basic rate tax relief on a pension contribution) but unlike a pension you can withdraw the money before retirement to purchase your first property. If you don’t use the money to purchase a property you’ll be forced to wait until age 60 to access the money (or pay a steep penalty).
The LISA is likely to be a good option for basic rate taxpayers and the self-employed.
At age 60, you can take the proceeds tax-free whereas money drawn from a pension is taxable. The LISA is likely to be a good option for basic rate taxpayers and the self-employed. Higher rate taxpayers should continue to be better off using a pension for long term savings as most will get 40% tax relief but only pay basic rate tax on withdrawal.
Predictably, pension companies are forecasting a collapse in auto enrolment pension contributions once the LISA is available. They are probably right, pension contributions will reduce. But we need to address the reality of life for many young people – they simply can’t afford to pay off student debt, buy their first home and save for retirement.
The proposed exit penalty for anyone accessing before age 60 will be the loss of the government bonus plus the associated growth and a 5% penalty on the rest of the fund. Exactly the type of early access penalty the government is keen to prevent pension providers charging.
George Osborne is reportedly keen to adopt the US 401(k) model which would allow savers to borrow from their fund without incurring a charge as long as the borrowed funds are fully repaid, for other yet to be specified ‘life events’. There is still a lot of consulting taking place on the final rules and we should know in the Autumn if this flexibility is going to be allowed. It was reported yesterday that the government is considering whether to allow more than £4,000 to be contributed, but these extra savings would not be eligible for the 25% bonus. This risks confusing the simple ‘£1 top-up for every £4’ message to savers.
We would like to see the Lifetime ISA form part of a strategy to encourage saving & investment by and for young people. The Junior ISA allows adults to contribute on behalf of children but the unrestricted access allowed at age 18 could see funds being used in ways that might trouble parents (to put it mildly). This is a serious drawback to an otherwise good product. The LISA & JISA could be combined into one savings product allowing contributions from children and adults, bonuses for young adults paying into their own plan and access for education or property purchase. One savings plan with restricted access would give parents some comfort and allow young people access to funds when they most need them.
To read more on the best ways to help your children secure their financial future, download our new Investing for Children’s guide.