Can the LISA find a place in your clients’ portfolios?
For adviser use only
In the 2016 Budget, George Osborne positioned the Lifetime ISA (LISA) as a means of saving for both a first house deposit and for retirement. While LISA may offer an attractive retirement savings option for some younger self-employed individuals, there are concerns that employees might be tempted away from workplace pensions, losing valuable employer contributions in the process. And there are pros and cons between using the current Help to Buy (H2B) ISA or LISA if saving for a house deposit. Younger savers face an increased range of options and many may need advice to arrive at what’s best for them.
Valuable 25% Government bonus
Let’s start with the positive aspect of LISA. When contributions are made, 25% is added. If your client is committed to using this money for a first house purchase or leaving it until age 60, this is very valuable. The yearly maximum of £4,000 becomes £5,000 once a LISA provider claims the bonus from the Government. This is the same boost individuals who are basic rate taxpayers get on personal contributions to pensions.
How the exit charge works
However, there’s a major drawback for those who might choose to access this money before age 60 for other reasons as any ‘ineligible’ withdrawals incur a 25% penalty. This goes further than reclaiming the Government bonus as it’s based on the amount after the bonus and investment growth. Someone accessing all their cash after one year, ignoring investment growth would get back £3,750 - an additional penalty of £250 or 6.25% of initial investment.
In practice, interest or investment growth will be added with the 25% penalty applied to the funds after this. Those saving for a first home deposit are likely to want to invest safely in a cash-based fund rather than in stocks and shares. In today’s low interest rate environment, it’s hard to get more than 1% interest on a cash ISA, so the £250 additional penalty could easily wipe out five years of interest.
Comparing with the current Help to Buy ISA
For those saving for a first home, the LISA will in time replace the H2B ISA and allows higher contributions to be invested (under H2B the maximum is £200 per month after an initial deposit of up to £1200 and the maximum bonus is £3000.) However, the H2B ISA receives its bonus at the point of first house purchase and there’s no penalty if the individual accesses their savings for other reasons. Those not saving above the H2B limit may prefer to keep paying into their existing plan to avoid the potential of an exit penalty within LISA. While H2B ISA funds can be transferred into LISA, this needs to be considered carefully again because of the potential exit penalty.
Comparing LISA with personal and workplace pensions
For retirement savings, all employees earning above £10,000 a year are being enrolled into a workplace pension with a valuable employer contribution. Their personal contributions are also receiving tax relief which for a basic rate taxpayer, equals the 25% LISA bonus. It’s not uncommon for the employer to ‘match’ the employee contribution after Government top-up meaning every £800 employee contribution from take-home pay could become £2000 overnight. While some of the income taken from a pension is subject to income tax, workplace pensions can still represent much more value than LISA for retirement savings
The self-employed don’t benefit from auto-enrolment and there is no ‘employer’ to add contributions. So for them, LISA will offer an attractive alternative to current personal pensions. LISA is only open to those under 40 and self-employed individuals who are paying higher rate tax could find that pensions are still more tax efficient because of the more generous 66% uplift higher rate taxpayers receive on pension contributions.
LISA’s place alongside other savings vehicles
Despite LISA being positioned as the solution to multiple savings objectives, for most people, it makes sense to have a range of different savings vehicles – a workplace pension, an ISA or bank account for ‘rainy day’’ money and for future first-time homeowners, a Help to Buy or Lifetime ISA.