On 16 January, legislation creating the new Lifetime ISA, known as LISA, gained Royal assent. Online broker Hargreaves Lansdown will offer the product from launch (April 2017), with rivals such as AJ Bell following close behind. Qualifying individuals can invest up to £4000 a year, with the Government providing a £1000 bonus. Like a conventional ISA, both capital growth and income are untaxed, and money can be withdrawn at any time.
But there are catches, linked to the fact that the scheme is intended to incentivise saving for a first home deposit or for retirement. So is it for you?
Born at the right time?
If you were born before 7 April 1977, stop reading now: you’ll be 40-plus when LISA goes live, meaning you’ll be too old to participate. There’s a minimum age, too (18). But once you’re in, you can contribute, collecting bonuses, until you’re 50.
Property owner?
If you own (or have ever owned) residential property, even jointly, taking money out of a LISA to buy a home will cost you a 25% penalty. The same deduction will apply after 2017/18 for all other withdrawals made before the age of 60 (there’s a compassionate exemption for people expected to die within 12 months). The penalty is deliberately greater than the original top-up. Property owners may still benefit from LISAs for retirement planning, however.
How much tax do you pay?
If you’re a higher- or additional-rate taxpayer choosing between a LISA or a pension for retirement savings, bear in mind you’ll get more upfront tax relief with the latter (40% or 45%). LISA contributions could still make sense if you’ve used your pension allowance for the year, expect to hit the lifetime allowance or might need to access your savings before the age of 60 – albeit with the 25% penalty, except for qualifying property purchase or terminal illness.
There’s also a big difference in how drawdowns are treated in retirement. With a pension, 25% can be withdrawn tax-free, whether as a lump sum or as regular payments, while the rest is taxed as ordinary income. In contrast a pension-age investor will be able to withdraw as much as he or she wants from a LISA tax-free.
When do you expect to retire?
Currently pension savers can access their money from age 55. This is expected to increase to 57 by the time those born in the late 1970s come of age. But this limit could easily rise, especially for those only just old enough to open LISAs. In contrast, the LISA rules are clear that the drawdown threshold is 60. This could change in the future, but it would be politically controversial to backdate it to apply to contributions already made. So a win for pensions, but only on points.
Conclusions
- Saving for a first home? If you’re aged 18-39, you’d be a fool (as opposed to a Fool) not to save for a deposit in a LISA. Couples can have one each, raising the saving power to £10,000 a year, including the top-up;
- Planning for retirement? For most higher- and additional-rate taxpayers, it makes more sense to pay into a pension than a LISA. But if you’re lucky enough to be able to use your full pension allowance and put money into a LISA, go for it! Basic and non-taxpayers will normally do better with a LISA, especially if they expect to pay income tax in retirement;
- Nearing 40 and undecided? To protect your right to contribute to a LISA, you must start doing so before your fortieth birthday. My view? Invest a small sum while you can and keep your options open. It’s a cheap insurance policy!