Pension vs ISA: The Big Debate

Pension VS ISA

Various options are available if you’re looking at tax-free ways to save. When it comes to a pension vs ISA, let’s explore the different benefits so you can compare the differences.

Should you increase your pension?

First, let’s look at pensions. There are various types of pension available, but all have the same function: to provide you with an income during retirement. A pension is a tax-efficient, long-term savings strategy. They are ideal for those earning an income, especially higher-rate taxpayers, or if you don’t need access to your savings until you retire.

As a taxpayer, the government gives you an income tax refund on every pension contribution you make. So, for basic rate taxpayers, if you pay £200 per month into a pension, the government will increase this amount to £240. For higher rate taxpayers, this increases to £264. When it comes to workplace pensions, many employers will also match your pension contributions, which must be at least 3% by law.

Your money will then grow tax free until the time you start using your pension. There are various allowances for how much you are allowed to pay into a pension. However, some allowances have changed during this financial year. There is also a special restriction which applies when you start accessing income from your pension. Known as the money purchase annual allowance (MPAA), this replaces the annual allowance when you begin to drawdown.

Below is a list of the recent changes to pension allowances:

  • The annual allowance has increased to £60,000.
  • The money purchase annual allowance (MPAA) is now £10,000.
  • There will be no lifetime allowance charge for financial year 2023/24.

From April 2024…

  • The maximum level of tax-free cash will be frozen at £268,275.
  • From April 2024, the lifetime allowance will be abolished.

When you can access your pension, you can withdraw a lump sum, but only the first 25% is tax free. The remaining amount will be taxed at your marginal rate.

There aren’t many disadvantages of holding a pension. But unlike an ISA, you cannot access your cash until the age of 55 (from 2028, this increases to 57). In some cases, you may benefit from buying an annuity, which pays out a set income based on your pension for the rest of your life. Speak to our financial planning team for advice on annuities.

Should you pay into an ISA?

Now let’s compare with an ISA (Independent Savings Accounts). ISAs provide greater flexibility than a pension, as you can access your savings if needed. There are no age limits, penalties or tax charges for withdrawals. This type of savings option is ideal for those who want to save towards a big spend, such as a house deposit or a new car. Money saved in an ISA is tax free, and some types give you the chance to invest.

The different types include a Cash ISA, Stocks & Shares ISA, Lifetime ISA, Innovative Finance ISA and a Junior ISA. You can save up to £20,000 in total each year (£4,000 for the Lifetime ISA and £9,000 for the Junior ISA). You can divide this allowance between more than one ISA.

Both a pension and Stocks & Shares ISA will be invested into a portfolio of funds. Nowadays, the range of funds is similar, giving you access to thousands of global investment options.

Unlike a pension, there is no instant tax relief. But your money can grow in an ISA exempt from income tax or capital gains tax. ISAs are a flexible savings option when used wisely.

Wealth Managers in Nottingham and Lincoln

When it comes to pensions vs ISAs, our team will usually recommend a combination of both, rather than one over another. As everyone is different, our advice is tailored to the individual and their situation. Our recommendations will be based on your financial position, lifestyle, aims and aspirations.

Balance: Wealth Planning will help you manage your wealth by comparing different tax efficient savings options. We can advise you on sensible strategies for investing, as well as ways to protect your wealth and your family.

If you’re unsure whether to increase your pension contributions or pay more into an ISA, get in touch to speak to our financial planners.

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