The launch of the Lifetime individual saving account (Lisa) presents an attractive new way for people to boost their savings for a deposit for a first home or their pension pot on retirement, but it should not be seen as an alternative to paying into a workplace pension.
From April 2017, anyone aged under 40 will be able to open a Lisa and set aside up to £4,000 a year knowing that, as long as it stays untouched until they are 60, the government will match 25% of what has been saved. The £4,000 forms part of an individual’s £20,000 annual Isa limit from April 2017.
On their 60th birthday, they will be able to take out all the savings as a tax-free lump sum. Only first-time home buyers explicitly using it as a deposit will be able to touch it before then and still keep the government bonus; other savers who make a withdrawal before this date may lose the government bonus and any interest received on it, and face high exit charges of 5%.
So, for example, a 29-year-old saving the maximum £4,000 would get north of £100,000 in today’s money: £80,000 in savings, and £20,000 from the government, plus whatever interest or investment return has been earned on the £80,000.
That is a very valuable and attractive addition to the suite of products available to savers. For some people who do not have ready access to a workplace pension, for example the self-employed, it is an easy-to-understand initiative to provide them with greater financial security in their retirement.
But there are a number of reasons why both the Financial Conduct Authority (FCA) and the government have recognised that Lisas should not be seen as an alternative to a workplace pension but complementary. And it is really important for people to appreciate why.
While the 25% bonus offered by the government might, on the face of it, seem attractive, member contributions into workplace pension schemes receive matching contributions from employers, and the benefit of basic or higher-rate tax relief.
Many employers also offer more generous matching structures above the minimum employer contributions required for auto-enrolment.
Those contributions are then typically invested in a default strategy that has been designed to suit the risk profile of a long-term saver with the charges on those investments capped and closely monitored to ensure value for money for savers.
With the Universities Superannuation Scheme (USS), for example, members pay in 8% of their pay and employers pay in 18% of salary, which covers the accrual of defined benefits and a guaranteed income in retirement, the USS Retirement Income Builder, for the first £55,000 of annual earnings, and a 20% total contribution from member and employer to the defined contribution section of the scheme, the USS Investment Builder, in respect of salary above that level.
Even for schemes less generous than the USS, the combined impact of the employer contribution and tax relief will often be greater than that offered by a Lisa.
And while the Lisa is tax-free at the end, employees will have paid tax on it before it goes in: through their payslip. The amount of tax an employee pays on their salary is likely to be higher than what they will pay on a pension in retirement.
In a Lisa, employees will only be able to access their savings and benefit from the government bonus without a penalty after they have turned 60. For those saving into a workplace pension, they can currently start to access it from 55 years old, but for younger people that is set to rise to age 57 from 2028 and is intended to be 10 years before the state pension age at any given time.
If any employee is giving serious consideration to using, or is being encouraged to use, a Lisa instead of paying into a workplace scheme, they should carefully consider the substantial benefits they might be missing out on. If an employee is in any doubt, they can get independent financial advice to make sure they are making the right choices for their circumstances.
To help members make informed decisions, USS will be providing a simple compare and contrast between the key features of the Lisa and saving with USS. Hopefully, for those of our members that can afford it, we can encourage more saving for a property and for retirement, rather than one or the other.
Mel Duffield is head of pension strategy and insight at the Universities Superannuation Scheme (USS) and member of the Pension and Lifetime Savings Association (PLSA) defined contribution (DC) council