Where does the Lifetime ISA fit into a financial plan?
I am not being controversial when I say that a pension wrapper is the most tax-efficient vehicle for retirement planning.
So it was somewhat surprising that pensions didn’t get a mention in HMT’s recent “Ways to save in 2017” infographic. This omission – a post-Christmas oversight or not – will certainly fan the flames of pre-Budget speculation surrounding pensions even earlier this year.
In fact it is the cost of the generous tax incentives that has led to repeated reductions in the lifetime allowance and annual allowance.
So with tax relief being squeezed for investors and the constant rumour of cuts in the future – how exactly might the LISA fit into retirement planning for those under 40 who will be eligible to apply?
It’s an age thing
Back in 2014, Chancellor Osbourne announced that by 2028 the normal minimum pension age would be pegged at 10 years below the state pension age. Although the legislation to enact this has been left out of two subsequent Finance Acts – assuming this is not another oversight – by the time the first cohort of LISA investors reach age 60 and can access the LISA free of penalty, the minimum retirement age for pensions will be 58.
So not only can LISA funds be withdrawn from age 60 free of Income Tax but the lifetime allowance will also not apply. Younger clients and advisers who are worried about future lifetime allowance issues could therefore consider accumulated LISA funds as another source to top up any retirement income free of tax.
Payments vs Subscriptions vs Contributions
From 6 April, the ISA subscription allowance rises to £20,000.
Money paid into a LISA will be known as ‘payments’ rather than the traditional subscription to ISAs or contributions to pensions. The annual payment limit for those eligible to apply for a LISA will be £4,000 in 2017/18.
The LISA manager will then apply for the government bonus of 25%, topping up a £4,000 payment by £1,000. This will be at the end of the year for 2017/18 and on a monthly basis thereafter.
For a new cash payment into a LISA or the transfer in of current year subscriptions to a cash or stocks and shares ISA, then the £4,000 payment will count towards the overall ISA subscription limit (£20,000 for 2017/18).
However, if a client chooses to transfer in £4,000 from an ISA relating to subscriptions made in a previous year, then they still receive the £1,000 bonus top up by using their full LISA payment limit, but they still have their full £20,000 ISA subscription allowance to use for 2017/18. They could therefore get a £1,000 bonus top up without having to commit new cash each year if they use this transfer facility annually.
Simple vs complex
We might never know how close the full pension ISA really was but it is clear the Treasury believes the ISA brand is trusted by consumers – largely due to the perception it is fair, simpler and easier to understand than pensions.
The introduction of the Innovative Finance ISA however has thrown this generalisation into doubt – just look at the FCA’s recent thoughts on the suitability of peer-to-peer lending investment for retail investors, particularly within a ‘trusted’ ISA wrapper.
The 25% withdrawal charge on the LISA has rightly been criticised and this, as well as the concerns over people opting out of workplace pensions, features heavily in the current FCA consultation on the regulatory framework for the LISA. Do these concerns mean the LISA is also in danger of straying into the realm of the complex and away from the trusted simple brand on which it is based?
Despite these drawbacks and even with all the mandatory risk communications at outset and throughout the life of the product – some investors will probably still plump for a LISA over pension contribution in some years.
So a LISA is not a pension, nor is it an outright replacement for one, but there may be some future planning opportunities for a segment of existing clients or the next generation coming through. I don’t really believe that those with significant ISA pots and potential lifetime allowance issues really were the intended beneficiaries of this policy though.
Aside from the withdrawal charge level, one huge LISA question remains – can future governments really be trusted not to tinker with the tax-free status after age 60? Whilst the tax treatment of death benefits from pensions remains so generous the answer may actually be yes, for now.
Fast forward 20 years and I may be having my own Michael Fish moment though.