Does Lifetime ISA threaten future of auto enrolment and private pensions?
In a speech in which the Chancellor emphasised several times that the Budget “put the next generation first” it is the introduction of the new Lifetime ISA that has given rise to both opportunities and concerns in the industry
The Lifetime ISA is aimed at encouraging those under 40 to save or invest for a first home or for their retirement. Up to £4,000 can be saved into the wrapper every year and the government has pledged that for every £4 paid into the ISA by those under 40 it will pay in £1, up to a maximum of £1000 a year, effectively giving savers 25% tax relief on their ISA saving. That deal will last every year until the person reaches age 50.
John Spiers, founder of EQ Investors said that on the basis that both investments and cash could be held within the ISA “this could be a great opportunity for simplified advice providers such as our own Simply EQ”.
He added: “To us, this looks like a future model for pension saving. There’s a good chance we’ll see the contribution limits increase in the future. There’s no facility to pay in more than £4k or take employer contributions at the moment. This would be the logical next step. The fact you can’t access until age 60 points to a likely state pension age of 70 and resetting of expectations on when people can realistically retire.”
However, Mark Soper, co-founder of RetireEasy.co.uk, while noting that the Lifetime ISA looked like “a hugely watered down version of the radical Pension ISA and tax relief reforms that were being talked about before the Budget” also rang a warning bell when he said: “The Lifetime ISA may impact on an individual’s decision to join a Workplace Pension plan, as the ability to save in both may prove difficult to low earners and younger savers alike.
The allure of the ISA’s early access [for property purchase] and possible tax free withdrawals may lead to many workers withdrawing from or opting out of their workplace pensions with the associated loss of the employer’s pension contribution. At best, it provides a layer of complexity for an individual to consider before joining a workplace pension plan – something that is counter intuitive to Automatic Enrolment. At worst, this could prove disastrous in the longer term for a healthy retirement plan.”
Commenting on auto enrolment Andy Bell, chief investment officer AJ Bell, said: “The Lifestyle ISA will go head-to-head with auto enrolment and I predict the new kid on the block will win hands down.”
Holly Mackay, MD of consumer-facing Boring Money, added that with pensions “a tainted brand, shrouded in complexity and mistrust” she believed that the new Lifetime ISA for savers aged 18-40 would “become an important part of retirement savings for younger Britains”.
“The simpler message of a £1 top-up for every £4 saved up to £4,000 is welcome although the5% early access charge seems a little two-faced in light of Government-backed moves across the industry to shine a spotlight on exit fees.”
UK pensions companies, she added, “will be huddled in the boardroom today, feeling beaten up and digesting what this means for the future of the pension. However younger savers should not turn their backs on pensions without careful consideration, especially if they are higher-rate taxpayers. And with minimum employer contributions scheduled to hit 3% by 2019, workplace pensions will remain an important chunk of retirement savings for us all.
“For now, pensions stay to fight another day although today’s news does deal the private pension providers a painful longer-term blow.”
According to a pre-Budget survey carried out among 2,000 adults by True Potential, six out of ten savers said they would opt for a long-term ISA over a pension. The company asked which product they would choose for retirement: the existing pension or an enhanced ISA if it were introduced. 60% said they would opt for the ISA.
Similar figures were found in a survey by Boring Money among 1,000 consumers aged between 18-34 on Budget day itself. This revealed that 57% positively welcomed the introduction of the Lifetime ISA and were significantly more interested in saving this way than into a pension. The survey showed that 15% preferred the idea of a pension, while 28% said that they had no savings and no interest in either a Lifetime ISA or a pension. Of the 57% who welcomed the idea, 39% said that they would be interested in trying to save the full £4,000 a year this way. 63% of women welcomed the idea of the Lifetime ISA compared to 51% of men.
Citing the survey figures as “unusually high numbers” Mackay said, they suggested “the simple concept of add £4, get £1 free, really resonates, as does the early access for property. UK millennials have given this the thumbs up and it’s really encouraging to see that women, who are typically less likely to engage with investment products than men, find the initial concept appealing.”
Grant Armstrong, Executive Director of Individual Distribution at Canada Life, added that the Lifetime ISA would be “particularly welcome to self-employed people, especially those paying the basic rate of tax, who don’t benefit from employer contributions to their pension. In the context of big cuts to the lifetime pension allowance, the Lifetime Isa and higher overall ISA limits will be important for those with strong lifetime earning potential.”
How the Lifetime ISA works
The money in the ISA can be used to buy a first home (in the UK, worth up to £450,000, anytime after 12 months from opening the account) or kept for retirement. Accounts are limited to one per person rather than one per home – so two first time buyers can both receive a bonus when buying together.
If a person has a Help to Buy: ISA, they can transfer those savings into the Lifetime ISA in 2017, or continue saving into both – but they will only be able to use the bonus from one to buy a house
If kept for retirement the Lifetime ISA cannot be accessed until age 60, when all savings can be taken out “tax free”.
Taking money out before 60 will see the government bonus lost, plus any interest that has been accrued on that portion of the ISA, and a 5% charge levied.
The Lifetime ISA accounts will be available from April 2017 and can be opened from age 18 until 40.
Opening a Lifetime ISA will, in most ways, be identical to opening a regular ISA under the existing rules. An ISA manager (such as a bank, building society or investment manager) will apply their normal account opening processes, which include asking for a National Insurance number and date of birth. Individuals will be able to open more than one Lifetime ISA during their lives, but will only be able to pay into one Lifetime ISA in each tax year.
Treasury figures show that a £4,000 contribution made by a 25-year-old into a Lifetime ISA which grew at 4% a year would be nearly five times larger due to the government bonus and investment growth by the time they reach 60.
Where people are diagnosed with terminal ill health, they will be able to withdraw all of the funds (including the bonus) tax-free, regardless of the individual’s age. The definition of terminal ill health will be based on that used for pensions.
The Lifetime ISA will have the same inheritance tax treatment as all ISAs. Upon the death of the account holder, the funds will form part of the estate for inheritance tax purposes. Their spouse or civil partner can also inherit their ISA tax advantages and will be able to invest as much into their own ISA as their spouse used to have, on top of their usual allowance.
The government will also explore whether savers should be able to access contributions and the government bonus for other specific life events.
The total amount that can be saved into all ISAs (including the Lifetime ISA) will rise from £15,240 in the 2016/17 to £20,000 from April 2017.