Out-Law News 2 min. read

Budget 2016: new lifetime ISA will be attractive to pension savers, says expert


The new 'lifetime ISA' for those under 40 will be an attractive alternative to traditional pension saving for many, an expert has said.

From April 2017, adults under 40 will be able to save up to £4,000 each year towards the purchase of their first home or for their retirement into one of the new ISAs, and will receive a 25% bonus from the government when the money is withdrawn for one of these purposes.

Referring to plans for pension tax reform dropped by the government ahead of the 2016 Budget, pensions expert Simon Laight of Pinsent Masons, the law firm behind Out-Law.com, described the planned product as "limited TEE via the back door".

"Chancellor George Osborne has cleverly sidestepped the backlash over proposed reforms of the tax incentive to save," he said. "Rather than compulsorily making the change to a tax-exempt-exempt (TEE) system, he has made it voluntary. We await the details, but it looks like consumers under 40 will be able to opt to take out a lifetime ISA, which has increased flexibility to pay money in and take money out. It will therefore be more attractive to many."

"The target consumers will shy away from the standard exempt-exempt-tax (EET) tax system for pension saving and instead favour the lifetime ISA. Less money going into EET means lowering the chancellor's yearly tax relief spend – that is, it brings forward tax receipts. We await details of how much this is likely to contribute to the forecast budget surplus. It is also a back door way of removing the tax free lump sum for new money being saved for retirement," he said.

Saving into a pension is currently tax free as are, for the most part, any investment returns over the lifetime of the pension saving arrangement. The actual pension income is taxed, subject to a tax-free lump sum. This system is referred to as 'exempt-exempt-taxed', or EET for short. Individual savings accounts (ISAs) are instead taxed on a TEE basis, where saving into the ISA is taxed but then returns and withdrawals are tax exempt.

In a 'green paper' on potential changes to the pension tax regime, published alongside the Summer Budget in July, the government put forward a move to a TEE system for pension saving as one of a number of potential options which would "strengthen the incentive to save". In today's Budget statement, chancellor George Osborne confirmed that the government was not planning to make any compulsory changes to the existing tax system after it became "clear there [was] no consensus" during the consultation process.

The government instead intends to introduce the lifetime ISA as an additional saving product, which will be available to those aged between 18 and 40 from April 2017. Any savings paid into the account before the saver turns 50, up to a maximum of £4,000 a year, would then be topped up with a 25% bonus from the government.

Savers will be permitted to use the lifetime ISA for one of two purposes: on the purchase of a first home up to £450,000 in value, or for retirement. Savers with one of the existing Help to Buy ISAs will be entitled to transfer their savings into a Lifetime ISA from April 2017 or to continue to use both, but will not be able to put both towards the purchase of a house. If saving for retirement, the saver would be able to withdraw from the ISA, tax free, after their 60th birthday. Withdrawals may be made before this date, subject to a 5% charge and forfeiting the government bonus.

The government also intends to increase the maximum that any one saver can pay into all of their ISAs, including the new lifetime ISA, from £15,240 to £20,000 from April 2017.

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