Lifetime ISA – What role will it have with traditional pension schemes?

The proposal for a new Lifetime ISA was announced by the Chancellor last week in the 2016 Budget.

A new Lifetime Individual Savings Account (LISA) was unveiled by the UK government, and will be available to individuals between the ages of 18 and 40 as of April 2017. It has been suggested that a LISA could provide an alternative or supplement to the traditional pension model and, according to the Chancellor George Osborne, will encourage and assist young people to save flexibly and be used “either to buy their first home or save for their retirement” without having to make a choice between one or the other.

LISA key features

HM Treasury has issued a technical note on the design of the LISA and a fact sheet which outlines the below features of the LISA:-

• Those between the ages of 18 and 40 can open a LISA.
• There is no monthly limit on contributions but a maximum yearly limit of £4,000 on contributions.
• Similar to current ISA models, all returns and withdrawals from a LISA will be tax free.
• Annual contributions made before a person is 50 years old will benefit from a 25% bonus from the government.
• If funds are withdrawn from the LISA, a 5% charge will be imposed and the 25% bonus will be forfeited unless:-
  1. the LISA holder is 60 years of age;
  2. the withdrawn money is to be used for the purposes of buying the LISA holders first home (the property must be in the UK and have a purchase value of no more than £450,000); or
  3. the LISA holder is diagnosed with a terminal illness (regardless of age).

• Contributions to the LISA will be included in the overall ISA yearly limit (which yearly limit is to be increased to £20,000 in April 2017 from the current £15,240).

Comparisons with the traditional pension model

The age restriction on charge-free withdrawals from a LISA does indicate that it is intended to encourage individuals to save for retirement. Accordingly, the LISA model is anticipated to create a new method of pension saving. There are two important variations between the traditional pension schemes and the proposed LISA method, as highlighted below.

• Tax implications

The traditional pension model provides for a exempt-exempt-tax (EET) tax system (whereby contributions and returns are exempt from income tax, but pension withdrawals are taxed), whereas a LISA will be a tax-exempt-exempt (TEE) tax system (whereby contributions are made from post-tax income, but investment returns and pension income are tax-free).

Those on the higher income tax band, particularly homeowners, may find it more advantageous to continue with the traditional pension model as their pension contributions benefit from tax relief at either 40% or 45%, and withdrawals from their pension may be limited to the lower tax band (depending on the sum withdrawn and whether full tax relief for higher rate payers continues after the reported stay of execution from the Chancellor). This may be less of a concern for individuals on lower incomes.

• Third party contributions

Automatic enrolment (AE) is highly beneficial to employees as their employers are obliged to make contributions to their pensions. Currently the LISA proposal does not account for this, and it is not clear whether those who open a LISA account and have opted out of AE will benefit from employer contributions. Employer contributions will be an important source of pension saving for many. Clarity on this will be essential in working out “the parameters of the scheme and to ensure it works in the simplest way for both savers and providers of savings products”.

Supplement or replacement?

Those who open a LISA will, as far as we can tell, still be subject to AE so LISA may act as a supplementary pension saving method to AE or any other pension arrangement whereby individuals can benefit from both employer contributions and government tax relief. Individuals on lower incomes may consider opening a LISA as a second source of saving to their AE or other pension arrangement, as this would allow them to benefit from dual contributions. Individuals on higher incomes may prefer the current AE and traditional pension model due to the EET tax system as noted above. Industry figures have suggested that the introduction of LISA is a backdoor way of creating a ‘pensions’ ISA based on the TEE tax system once it has bedded down. Employers and individuals of all ages need certainty and confidence in saving for their retirement. We hope that LISA doesn’t undermine this and we await further details with interest.

MacRoberts’ Pensions Group regularly assists clients in assessing the adequacy of their existing pension arrangements (including auto-enrolment obligations and wider employee benefits), and can help employers who are providing a pension offering to workers for the first time. For more information, contact James Keith

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