Pension or ISA..?

Hi ferry,

Assuming you're a basic rate taxpayer, almost certainly an ISA,otherwise you lose the annual tax relief.

You can pick up the tax relief on a pension much closer to retirement.

There is no right or wrong answers when answering a generic question like yours. Both pensions and ISAs have features and terms which can be beneficial to some and not to others.

If your personal circumstances were reviewed, then a more personal answer could be given.

1. You get the tax relief now. Assuming you are a basic rate tax payer if you pay in £50 a month that will actually be £64. This means your pot is growing fast then it would in an ISA ans therefore you have much more potential for growth.

It doesnt actually. If you put £50pm into an ISA for the same timescale and then at the end placed it in the pension as a lump sum, the amount of tax relief would be exactly the same.

2. You can't now be tempted to spend the money you save on anything else as might happen with an ISA.

This is very important. Many need the tie in with the pension because they cannot trust themselves to leave money in an ISA.

3. ISA's are only running till 2010 (as far as I'm aware). What if the government don't replace them with another tax-advantageous scheme?

Its certainly an unknown situation beyond that point but lets say ISAs were to cease fully, you could then pay the whole balance into a pension at that point if you wanted.

If you are in receipt of childrens/working tax credits, then pension contributions can increase the credit you receive. An ISA doesnt.

You have a income personal allowance of £7000 after age 65 (currently). That means you can earn 7k with no tax payable. You should aim to utilise this income allowance with pensions (including state). If you used an ISA, you would get less than you would have done on a pension.

There are other pros and cons.

Actually, what i really meant was that the end result would be the same. If you take the following example:

£780 p.a into ISA for 20 years @ 7% = £34214.84

£780 p.a. net into pension means you get £1000 going in p.a. because of tax relief. Therefore:
£1000 p.a. gross into Pension for 20 years @ 7% = £43865.17

So, pension looks higher. However, take that ISA final figure and add 22% tax relief and you get the same as the pension.

So, in the past, because of the restrictions on personal pensions and how much you could pay in annually, using your allowances was important. However, from April 2006, that doesnt matter as much as you will be able to pay 100% of your income into a pension and obtain tax relief.

So, paying into a pension now should really involve other benefits/features/terms that may be appropriate. Such as need for having it tied up, children/working tax credits, higher tax relief, lower charges on pension compared with ISA for same investment funds.

Also given how quickly pensio rules change, whose to say whether the same reliefs will be available in 20years time. There is an argument for making hay while the sun shines!

I agree. You need to be aware of all pros and cons with these to make the right choice. Its not as simple as one or two here tend to suggest if you want the absolute correct answer.

But with the pension aren't you getting compounding on £1000 over twenty years instead of on £780 with the ISA?.

Nope. Test the math.
The figures in there have 7% p.a. compounded using £780 p.a on the ISA and £1000 on the pension.

Assuming same charges and performance the pension fund will remain 22% higher at the end. So, if you then take the ISA figure and invest it as lump into a pension it will get that 22% back.

Early investments into pensions were better as they got higher tax relief than that available today. Plus in the old days you had tax free growth as well. All of which would have had an impact.

It was comments on this site that showed the calculations and that tax relief made no difference at the beginning or at the end. Are you now saying that these calculations are wrong? I'm certainly not confident 100% one way or the other. Ive stuck those figures into a spreadsheet and thats how they came out. Now a spreadsheet is only as good as the person using it and I am certainly no expert there. Personally, I tend to rely on real world illustrations and not excel spreadsheets. There is more to end figures than just tax relief. Charges will have an impact and they will often be lower on pensions. You also have to consider the maturity process and spouse/partner issues.

However, if you want to post your calculations for us to see, I would like to see this one resolved once and for all. With all these ISA vs Pension threads it would be nice to see a financial answer with figures rather than opinions that just say "do an ISA as they are better".