Kay Ingram: How to make taxpayer handouts work for you
Kay Ingram is director of public policy at national financial planning group LEBC.
Savers under the age of 40 can open a pension or a Lifetime Isa, and use them to save for retirement with help from the taxpayer.
In an ideal world, having both would be the best option, but if savings are limited there are clear advantages in maximising workplace pension savings first.
Higher rate taxpayers will also get a bigger bonus from pension saving.
That said, savers should consider both options. There are a number of important factors to take into account when choosing how best to boost retirement savings with taxpayer handouts.
Pensions vs Lifetime Isas: How do they compare?
![* Taxpayers resident in Scotland are eligible for tax relief at 21% if income is over £25,159, 41% if income exceeds £43,430, and 46% if income is over £150,000 (Source: LEBC)](https://i.dailymail.co.uk/1s/2021/02/23/16/39670122-9291367-_Taxpayers_resident_in_Scotland_are_eligible_for_tax_relief_at_2-a-8_1614097153020.jpg)
* Taxpayers resident in Scotland are eligible for tax relief at 21% if income is over £25,159, 41% if income exceeds £43,430, and 46% if income is over £150,000 (Source: LEBC)
What to weigh up when deciding how to save for retirement
1. Free money from your employer
For employees, joining a workplace pension offers the added advantage of a tax-free employer contribution.
Employees earning over £10,000 a year, between the age of 22 and 66, must be offered a pension scheme, with the employer paying 3 per cent of earnings. The employee pays 4 per cent and tax relief adds a further 1 per cent.
Many employers offer more generous schemes and not joining or opting out is giving up ‘free money’. Employers cannot pay into a Lifetime Isa.
2. Higher earners benefit from pensions
Those paying tax at a higher rate get a bigger bonus from pension savings.
A higher rate taxpayer sees £6 saved grow to £10, and for a top rate taxpayer, £10 saved costs just £5.50.
Taxpayers resident in Scotland can gain an extra 1p in the pound as they pay tax at 21 per cent if income is over £25,159, 41 per cent if income exceeds £43,430, and 46 per cent if income is over £150,000.
For nil or basic rate taxpayers, the Lifetime Isa and pension offer the same taxpayer bonus of 20 per cent, so that £8 saved is worth £10 invested.
Both offer the same tax-free roll up of funds, with no tax to pay on fund growth or income.
When the money is paid out the Lifetime Isa has the advantage of offering a tax-free income, whereas 75 per cent of the pension paid out is treated as taxable income.
3. Pending (and possible) rule changes
There is speculation the Budget on 3 March could end higher rate tax relief for pension savers.
Should this happen then or in the future it will increase the attraction of the Lifetime Isa, which pays a tax-free income in retirement.
Meanwhile, a Treasury consultation, published on 12 February, looks at the best way to implement an increase in the age from which pensions can pay out from 55 to 57, effective from April 2028.
This may increase further in line with the rising state pension age 10 years later.
Lifetime Isas can pay out from the age of 60.
A narrowing gap between the age at which savers can gain penalty-free access makes the choice less clear, especially as Lifetime Isas pay out tax-free but pensions are partly taxable.
![Boosting your savings: Under40s can open a pension or a Lifetime Isa, and use them to save for retirement with help from the taxpayer](https://i.dailymail.co.uk/1s/2021/02/23/16/39671654-9291367-image-a-7_1614097026110.jpg)
Boosting your savings: Under40s can open a pension or a Lifetime Isa, and use them to save for retirement with help from the taxpayer
4. What if you have no earned income
Those without earnings can save £4,000 a year into a Lifetime Isa.
However, if they have no earned income, they can save only £2,880 into a pension, so the taxpayer subsidy is up to £720 a year in a pension but up to £1,000 in a Lifetime Isa.
5. What if you do earn income or profits
Where more than £4,000 is available for saving long term, those with earnings or self-employed profits can save in a pension the lower of their earnings/profits in the year or £40,000 into a pension, but only £4,000 into a Lifetime Isa.
6. Age restrictions
Lifetime Isa savers can pay in and earn the bonus only between the age of 18 and 50. Pension savers can start at birth and continue until 75.
Starting a Lifetime Isa before the age of 40, then funding a pension from the age of 50, could provide a good combination of tax-free income from the Lifetime Isa and taxable income from the pension.
If the pension and other sources of income fall below the personal allowance for income tax (currently £12,500), all the income could be tax-free.
The Lifetime Isa offers access before the age of 60, with a lower penalty than applicable if a pension was accessed prior to age 55 (57 from April 2028).
7. Leaving funds to loved ones
Lifetime Isas cannot be continued beyond death and form part of the taxable estate.
Pension funds can be left to others to continue, with tax-free investment, and do not usually form part of the taxable estate.
8. Choice of products
It is easy to open a pension, or simply not opt out if your employer auto enrols you into one.
Choice of Lifetime Isa providers is more limited and most offer only a cash deposit option.
For long term saving for retirement a stocks and shares Lifetime Isa has more potential to maintain its purchasing power alongside inflation, but could go down in value in the short term.We run down what’s available here.
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