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Lifetime ISA loophole could provide double saving boost

Canny savers could use pensions and lifetime ISAs and gain a double tax break, provided the chancellor doesn't close the loophole first.

 

by Michelle McGagh on Mar 22, 2016 at 11:38

Lifetime ISA loophole could provide double saving boost

Future retirees could be in line for a double whammy of tax breaks if they transfer their lifetime ISA savings into a pension after age 60, unless the chancellor closes it down beforehand.

Chancellor George Osborne revealed plans for a new lifetime ISA, which will be launched next April, to help younger people save for both a house and their retirement.

The new addition to the ISA stable encourages people aged 18-to-40 to save up to £4,000 a year and receive a government bonus of 25%, up to £1,000 a year, until age 50. This means that for every £4 saved, the government gives you £1.

The money can be accessed tax-free to either buy a property worth up to £450,000, or at age 60 for retirement. If the money is accessed before age 60 and not used to buy a home the government bonus will be removed and a 5% charge will be levied.

Lifetime ISAs are being heralded as an alternative to saving into a pension but of course pensions still remain available and dedicated savers can save into both if they wish, receiving the tax relief on their pension contributions which they would have done previously.

Stuart Adam, senior research economist at the Institute of Fiscal Studies, said the fact that pensions and lifetime ISAs would run alongside each other could provide scope for savers to receive a double tax boost.

He suggested rather than ‘lifetime ISAs…and pensions [being] alternatives to each other’ they could be used together.

‘What you can do is put your money in a lifetime ISA and when you hit 60, up to the limits prescribed (up to the annual pensions allowance) transfer it into a pension and so get the top-up into the lifetime ISA and the 25% tax-free lump sum available through the pension. There is a limit on how much can transfer into a pension but insofar as you can that looks like an extremely favourable option that has been created,' said Adam.

Claire Trott, pension expert at Talbot and Muir, a self-invested personal pension provider, said the loophole in the rules would allow savers to put money into a lifetime ISA up to age 60, and then transfer the tax-free total sum into a pension, receiving tax relief at their highest marginal rate of 20%, 40% or 45%, and then being able to access the fund – including the tax relief – with the first 25% taken being tax-free.

Savers are currently able to save £40,000 each year into a pension, known as the annual allowance. They can also utilise any unused allowance from the previous three years, known as ‘carry-forward’

Trott said this meant money could be moved from a lifetime ISA into a pension quite easily.

However, she said that ‘the allowance is £40,000 gross (including tax relief from the government) so you would actually be able to move less than £40,000’ and this loophole ‘would depend on the system staying the same’.

‘It’s not a massive loophole because the likelihood is people will want to use the money [saved in a lifetime ISA] for income,’ she said.

‘You could also be caught by the money recycling rules, which stop people from making large pension contributions, getting tax relief, and then taking out the 25% tax-free cash right away.’

Mike Morrison, a retirement specialist at AJ Bell, said the rules around how much a person can save into a pension and the reliefs they would receive could be very different in two decades’ time.  

‘If you take the money out  [of the lifetime ISA] prior to retirement and pay a large pension contribution you will get tax relief but what will the annual allowance be in 20 years’ time?’ he said.

‘It could happen but that’s not the intention.’

The government is already contemplating the future of tax relief on pension contributions and while it shelved plans to move to a flat-rate, many believe the introduction of the lifetime ISA is bringing in a new rate of relief ‘by the back door’, said Morrison

The fact that the rate of relief is 25% for lifetime ISAs ‘does seem to indicate’ the route for a future rate of tax relief.

10 comments so far. Why not have your say?

Codger

Mar 22, 2016 at 11:56

It would be unwise to bank on the rules for savings schemes and pensions to be the same in 25 years time!

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PaulSh

Mar 22, 2016 at 12:47

On the grounds that I can't believe Osborne and co. haven't already thought of this, I'd say it's the clearest sign ever that the current pension system is approaching its own retirement date.

The only other step that needs to be taken now to transition from the current system to the LISA is simply to stop existing pension schemes taking on new members born after 1976.

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Hotrod

Mar 23, 2016 at 08:23

Oh I see; you transfer all your Lisa savings into a pension at aged 60 and then snuff it aged 66 and the pension provider takes the lot!?

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PaulSh

Mar 23, 2016 at 10:10

@Hotrod, a drawdown pension pot can be inherited, do you mean an annuity? Surely the idea of the LISA is that it IS your pension, and from 60 you can draw it down tax-free.

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Hotrod

Mar 23, 2016 at 13:21

@PaulSh

With respect, the author does not explain, imply or infer what type of pension you should transfer your funds into.

I was simply trying to make the point that pension planning is a complex issue and will depend entirely on each individual's circumstances at the time they retire.

The Govt. understands this, that is why they set up the LISA in the first place.

To give universal flexibility.

A poor decision at the time these funds mature could undo all the good work this legislation is trying to preserve

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mr mcgee

Mar 23, 2016 at 18:28

A problem I have with the LISA is that we are all being taxed to subside people buying property and in this case up to a value way above the average house price. This will only raise the price of property and not solve a problem of shortage in housing. if you are young,have rich parents willing to pump cash into a LISA then this is great for you. Glad everyone in this country is helping to subsidise your lifestyle!

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bouleversee

Mar 24, 2016 at 18:51

I should have thought most people would want/need to access their LISA money for house purchase at some point. Can they continue to save into the LISA after doing that? However, suppose they inherit a home and the LISA continues to mount up to a substantial sum, what exactly does being able to withdraw at 60 for retirement mean? Can they then start drawing an income tax free or do they have to buy an annuity or transfer to a drawdown pension. It would certainly pay to do so since the pension fund can be left to heirs tax free whereas the iSA can only go to the spouse, thereby increasing the spouse's IHT bill. Unless one is a lot more successful at investing than I am, the income from the pension fund at 60 is not likely to exceed the personal allowance and withdrawals can be tailored accordingly,. I never did see any explanation as to why pensions can be left IHT free, having had tax relief on contributions, whereas ISAs, accumulated from already taxed contributions, cannot. Very unfair to those whose employers did not offer a pension scheme or who moved jobs several times and could not qualify or had contributions returned.

I agree with Mr McGee that it is the already well-heeled who will benefit from this, thanks to high pay or parental contributions. Your average Joe, paying rent, will not be able to save £4000 p.a. and I don't see why his tax should be subsidising those better off. Yet another half baked wheeze.

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AngryfromManchester

Mar 24, 2016 at 19:18

Totally agree with mr McGee. First right to buy and now this truly shocking piece of policy making.

When will this obsession with inflating the housing market end?

Who reckons that at the next budget he will tell us what a great success it is and before increasing the contribution limits whilst slashing the pensions annual allowance

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dab

Mar 24, 2016 at 19:38

For most young people LISAs will seem to be about chasing an impossible dream; both stated objectives being an interminable distance away.

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Law Man

Mar 24, 2016 at 23:14

This scheme assumes that the investor has taxable income (after Personal Allowance) of £40,000 p.a. Otherwise you will not receive tax relief on the way into the SIPP.

Even then, when you draw the money out of the SIPP, you pay increases me tax. Of course there will be the 25% tax free lump sum; but that only reduces the marginal rate from 20% to 15%, or 40% to 30%.

A neat idea, but not that fantastic; and I suspect that by 2037 the rules will have changed.

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