We’ve all heard the dire warnings that if you don’t set enough money aside into your pension, you’ll be living off cat food in your twilight years (while relying on a friend’s Netflix password for entertainment since there won’t be a free TV licence).
But pensions are not the only way to save for retirement, and for freelancers, it may not even be the best.
In the blue corner
Most employed people get a contribution from their employer towards their pension. Throw in the tax relief, plus being able to access the money from 55/56/57/58 (delete as appropriate), and it’s a great way to save.
However, without an employer by your side, pensions aren’t quite so attractive, especially as a basic-rate taxpayer.
In the red corner
In 2016, George Osborne unveiled the Lifetime ISA and was greeted by…
If you’re under 50, you can save £4,000 a year into a Lifetime ISA and the magic money tree will top it up by 25% (so a maximum of £1,000 bonus). However, you can only access the savings to buy your first home or when you reach 60 without paying a hefty penalty.
If you’re saving as a first-time buyer, then it makes a lot of sense, but what about for retirement?
The key advantage is being able to withdraw your money tax-free after 60. This could be a great way to get a higher income in retirement by reducing your future tax bill.
Head-to-head
As a basic rate taxpayer, the Government contribution to a pension or a Lifetime ISA is the same – either it is topped up by tax relief or it is topped up by the bonus. Let’s say by retirement you have enough saved to withdraw £20,000 per year on top of the full state pension of £9,100.
If this £20,000 came from your pension pot, you would pay over £2,000 in income tax (accounting for 25% being tax-free and the personal allowance). With withdrawals from a Lifetime ISA, you’ll pay no income tax at all.
Now, you’d have to make the maximum contribution from 18 to 50 and make reasonable returns from the stock market to hit that kind of balance in a Lifetime ISA. If you’re already in your mid-30s, then you’re looking at less than half of that saving.
So is it worth it? Up to £2,000 a year could make an enormous difference to the lifestyle you can afford in retirement. However, tax rules can change a lot in the decades to come. There wouldn’t be much public outrage if the Lifetime ISA were made less generous, however it’s small fry compared to the £40 billion tax relief given to pensions.
Unlike pensions, Lifetime ISAs can affect your ability to access means-tested benefits and they can be used to pay creditors if you go bankrupt.
Part of the appeal of the Lifetime ISA is the ‘use it or lose it’ approach to the Government top-up each year. I don’t really think it is the right option for me right now, but I still feel like I’m missing out.
Maybe the best choice is to keep my options open. You can only open a Lifetime ISA if you’re under 40, so even putting a few quid into an account before then might be worthwhile. You can continue to contribute until you’re 50 and who knows if the rules will change in the meantime to make them more generous?
Combining the two savings vehicles could offer even more savings. After 60, withdrawals from Lifetime ISA savings could help to fund extra pension contributions: double Government bonus!
Is a Lifetime ISA worth it?
🏠 Big benefits to first-time buyers
💵 Basic-rate taxpayers can pay less tax in retirement, but downsides in the small print
💰 Higher-rate taxpayers will get more tax relief in pensions
Thank you for reading. Nothing here should be considered financial advice, so please do your own research.
Subscribe to receive future posts by email
Got a friend? Show them you care by forwarding this on!
Did you find this useful and want to say thanks?