What you need to know about the Lifetime Isa
In Budget 2016, the Chancellor announced a new individual savings account, the Lifetime Isa, which offers people under 40 a flexible tax- efficient way to save for a property or retirement. We explain how it will work and who should use it.
Who can get a Lifetime Isa (Lisa)?
UK residents aged between 18 and 40 will be eligible to open a Lisa and save money into it until they are 50.
When can I get one?
It’s not available until April 2017. Until then, you should save in a cash or stocks and shares Isa or a pension. All of these, plus Moneywise’s picks, are explained below.
What are the benefits?
You will be able to save or invest up to £4,000 a year in a Lisa, and the government will top up your contribution by 25%. So if you save the full £4,000, you’ll have £5,000. In total, you can get up to £32,000 of free cash from the state. To get this, you’d have to open a Lisa on your 18th birthday and contribute the maximum £4,000 a year until age 50.
The money is to be used towards a first home worth less than £450,000 (if the home costs more, you lose the bonus) or, once you’re over 60, towards retirement.
I’m 39. Will I miss out?
If you reach 40 on or before 6 April 2016, you won’t be eligible for a Lisa – that’s anyone born before 7 April 1977. If your birthday falls soon after that date, make a note in your diary for March 2017 to remind you to apply. Once you open it, you can keep contributing and get the government bonus until you’re 50.
I want to save for a deposit on a property. Should I wait for the Lisa?
The Lifetime Isa will be a no-brainer for first-time buyers. But until it comes in, first time buyers should use the Help to Buy Isa. This can be used for properties in London worth up to £450,000 but only £250,000 outside the capital. You can save in a Help to Buy Isa now and transfer it into a Lifetime Isa when it launches in April 2017.
I’m saving for retirement. Will the Lisa be better than a pension?
If you are a basic-rate taxpayer at 20% (someone earning up to £43,000 a year) and save £4,000 into a pension today, the government tops it up by £1,000 to make a total investment of £5,000. Higher- and additional-rate taxpayers can claim back even more via their tax return.
£5,000 in a pension could cost a 40%-rate taxpayer just £3,000 and a 45%-rate taxpayer just £2,750.
Also consider that if you’re employed, auto-enrolment means your employer has to match some of your contributions in a pension. This is a big advantage of pensions over the Lisa, which your employer doesn’t have to contribute to.
When you take your pension, you can only take 25% of it as a tax-free lump sum – the rest you pay income tax on. You will be able to withdraw the money totally tax-free from a Lisa.
Also note that with the Lisa you are penalised for withdrawing the money before you are 60 – if you do so, you will lose the government bonus. There will also be a penalty charge of 5%.
The exception will be those people who are diagnosed with a terminal illness, who will be able to withdraw their Lisa cash tax free, including the bonus, before they reach the age of 60.
In contrast, pensions can be accessed 10 years before state pension age, therefore from age 55, though this will increase as the state pension age increases.
Could pensions disappear for the under 40s?
The Lisa smacks of a pilot scheme for a new pensions regime, disguised as an Isa to take advantage of the latter’s popularity and to avoid more accusations of messing with the pension rules.
Isas are undeniably the more popular savings wrapper, and their appeal may help draw people in. But a big part of their popularity lies in their simplicity, and the Lisa could undermine that reputation. There are already five types of Isa. The Lifetime Isa will be the sixth, so it’s getting quite confusing.
How do I know which Isa to use?
Here are the different Isas available today along with an explanation of who they are suitable for and Moneywise product picks.
Cash Isa: Suitable for someone saving up for an emergency cash fund or if you have a financial goal that is less than five years away. You can save up to £15,240 this tax year.
Moneywise pick: For the best rates updated every week visit our best cash Isa rates round-up.
Help to buy Isa: A must if you are a first-time buyer saving up for a deposit. Essentially, it is a cash Isa that helps people save a deposit to buy a home. The government will contribute £1 towards your deposit for each £4 you save, up to a maximum contribution of £3,000 on savings of £12,000.
The bonus is paid on regular savings up to £200 a month, which will earn a £50 top-up. You can also deposit a lump sum of up to £1,000 when you open the Help to Buy Isa, which will also earn the 25% bonus. The bonus is also paid on any interest earned on your savings, up to the maximum of £3,000.
Stocks and shares Isa: Suitable if your financial goal is at least five years away and you have the appetite for the higher risk involved with investing. Again, you can save up to £15,240 this tax year.
Moneywise pick: Beginners could start with the HSBC FTSE All Share Index fund for low-cost exposure to UK equities or Fidelity Index World fund for low-cost exposure to different equity markets worldwide.
Innovative finance Isa: Introduced on 6 April and allows investors to access higher returns than cash via peer-to-peer lending. This is where you lend your money directly to individuals and small businesses via a peer-to- peer platform. You can save up to £15,240 this tax year.
Moneywise pick: Go with an established peer-to-peer platform that has a low default rate from borrowers such as Zopa or RateSetter.
Junior Isa: Parents and grandparents can use a Junior Isa to save or invest up to £4,080 this tax year for a child.
Cash Junior Isas suit parents who cannot entertain any risk to their child’s money or for people who are saving for less than five years until their child turns 18, which is when the money can be drawn. People who are less risk- averse and are investing for the longer term might prefer to look at an Investment Junior Isa for their offspring.
Moneywise pick: Halifax offers 4% on cash Junior Isas but the parent has to be an existing customer.
Coventry Building Society and Nationwide both offer 3.25% on cash. For investments, we like the Fidelity Junior Isa for a wide range of funds (plus all-in-one solutions) at reasonable charges or the JPMorgan Junior Isa is particularly good value for those putting regular premiums into investment trusts.
Tax-free lump sum
An inelegant phrase that is nonetheless accurate in what it describes: a one-off payment to a beneficiary that is free of any form of taxation. Usually received when using a pension fund to purchase an annuity, as 25% of the overall fund can be taken as a tax-free lump sum.
Available from 1 November 2011, the Junior ISA will replace child trust funds (CFTs), which have been phased out. Junior ISAs will have a £3,000 limit and will be offered by high street banks, building societies and other providers that currently offer ISAs to adults. You can invest in either stocks and shares or cash. But, unlike CTFs, there will be no government contributions into each child’s savings pot. Money invested in Junior ISAs will be “locked in” until the child is 18, and the ISA will default to an adult one.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
This is a mutual organisation owned by its members and not by shareholders. These societies offer a range of financial services but have historically concentrated on taking deposits from savers and lending the money to borrowers as mortgages, hence the name. In the mid-1990s many societies “demutualised” and became banks. One academic study (Heffernan, 2003) found demutualised societies’ pricing on deposits and mortgages was more favourable to shareholders than to customers, with the remaining mutual building societies offering consistently better rates. In 1900, there were 2,286 building societies in the UK; in 2011, there are just 51.
Where APR is the rate charged for money borrowed, Annual equivalent rate is how interest is calculated on money saved. The AER takes into account the frequency the product pays interest and how that interest compounds. So, if two savings products pay the same rate of interest but one pays interest more frequently, that account compounds the interest more frequently and will have a higher AER.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.