ISAs v Pensions: The Official Retirement Debate

moneymouth77

Many thanks mate, I shall go through all of this and try and get a better grip on it, it appears I wasn't quite as au fait with it as I thought I was. Common problem eh?

stphnstevey

EdInvestor wrote: »

What's realistic for a couple?I'd say a retirement income of 20k each, 40k total, would do nicely ( that's compared with the average of 14k for two today.)

Income made up as follows:

1.The two state pensions, both index-linked, let's say 6-6.5k average (part of this might include income from a small contracted out "protected rights" pension).

2. Company or private pension income, either final salary (index linked)or money purchase,or a mixture of the two: 3.5-4k. This would involve a money purchase fund of approx 75-100k to provide for inflation, depending on whether it was annuitised or in income drawdown.

The income above should be pretty well tax-free as it's within the age allowance and 10% band.

3.Income from ISAs - 5k. This would be a fund of 100k, invested in a mixture of property funds, bond funds and cash generating a 5% annual tax-free return.[Much of this money,except for the cash, might have been invested in equities earlier while it was growing.]

4.Income from direct investment 5k - in shares or equity unit trusts. The dividend income is free of additional tax and any top up is covered by the CGT tax free allowance.

This 20k income will be below the threshold at which you are deemed well-off and start losing your age allowance.

How might this be accumulated?

The state pension will grow as you work, and company pensions where employers' contribute should crop up for most people to provide the other chunk.If not use a SIPP.

The first 100k fund needs to be saved in your ISA, first in cash and then in ideally in equities.

But the 2nd one could well come from either trading down from your family home into something smaller at retirement, or from cashing in a BTL.[Of course you might want to keep the BTL, but bear in mind that letting income is taxable.]

Hi Ed

With your example of aiming for ~£20k each per year in retirement and ~5K being provided by the State Pension/Second Pension etc.

It quite neatly fits that the ~£15K ISA allowance/yr for a couple would be the exact amount you would need from other investments to make it upto the £20k

We have about 30yrs to retirement and estimate 30yrs of retirement. Therefore if we are contributing the maximum ISA limits each year, we should pretty much reach the 20K target, with no further investments needed.

Just one question?
People have mentioned on here about saving in an ISA and then moving the lump sum to a pension in later years or when in the HRT band. However are your yearly contributions not limited to your salary. So should I just be aware that otion might take a few year to move a large sum into a pension?

EdInvestor

stphnstevey wrote: »

People have mentioned on here about saving in an ISA and then moving the lump sum to a pension in later years or when in the HRT band. However are your yearly contributions not limited to your salary. So should I just be aware that otion might take a few year to move a large sum into a pension?

Probably not that long as savings will usually be in proportion to salary.,

stphnstevey

EdInvestor wrote: »

Probably not that long as savings will usually be in proportion to salary.,

But if your looking to get the 40% relief, you only get that on the salary that is in the HRT band. So depending on your salary and if you were specifically looking to exploit this, it would take some time I would have thought.

Speaking of this, if you are getting the HRT relief vertially as cash (ie you pay less tax on your income), I guess you don't have to wait for the 25% Tax free lump sum to benefit from this.

stphnstevey

Is the reasoning ISA vs Pension reasoning the same in my case:

I am a contractor and Director of my own Ltd Company. My company can make Company Pension contributions to myself or my wife's pension (she is also a Director) and save 21% Corporation Tax.

However, it seems it is likely that we will pay 22% Income Tax when drawing the pension, in the same way as others who make personal contributions.

I am on a salary just upto the start of lower rate IT band (ie paying 0% IT). I can't get my head around whether making personal contributions upto my salary level would be of benefit? I am paying no tax and the amount grossed up, but will be charged tax on drawdown, so seems to cancel eah other out. Although the company saves 21% Corporation Tax.

jamesd

The company is you so that's a benefit. You personally get grossing up on 3600 of gross pension contributions a year. That's worthwhile unless you want to wait for higher rate relief.

But you may be making one big mistake. Concentrating on the tax, not the investments. Now is a good time to be investing and the enhanced gain from the good market conditions beats the tax benefit of waiting. If the business has the money now is a good time to be taking some profit from it to invest. When the stock markets are booming is a good time to be keeping money in the company.

stphnstevey

Thanks James

I see your point about ensuring the investment itself is the best and timing and I will take this onboard. I will look at the big picture and understand the tax benefits are only one part. However, understanding the tax benefits is not always the easiest!

I work out that paying from my minimal salary into a pension:
Save 21% CT
Save 22% IT
Save 5.5% IT
Pay 22% IT

Meaning ~ 28% tax saving.

From company contributions to a pension:
Save 21% CT
Save 5.5% IT
Pay 22% IT

Meaning ~4.5% tax saving

From dividends into an ISA:
Pay 21% CT

Meaning ~21% tax cost

From dividends into a pension:
Pay 21% CT
Save 5.5% IT
Pay 22% IT

Meaning ~34% tax cost

So for me, it is more tax effecient to save into a pension. However that is due to the Corporation Tax I have to take into account and would be different for others.

Whether the inflexibility of a pension is better than an ISA, is another issue!

jamesd

Pension is good. Non-pension is also good. If you think that you can take the pension money at 55 then you can use non-pension to retire earlier if you like, or to provide tax-free income or a bit of each.

stphnstevey

jamesd wrote: »

Pension is good. Non-pension is also good. If you think that you can take the pension money at 55 then you can use non-pension to retire earlier if you like, or to provide tax-free income or a bit of each.

Is State Pension age the same age at which you can take a personal pension?

Also, if my salary is £5720, can I make a pyment of £5720 to a personal pension and the goverment will add tax reelief or is it £4461 and the goverment makes it upto £5720 with tax relief?

stphnstevey

Also, is there a difference between the tax benefit of payments into a pension from:
1) salary that is under the tax threshold so no tax was paid on it
2) salary that is over the tax threshold and tax paid on it

1) seems to be 22% saved when into pension, 22% payed when take from a pension = 0%

2) seems to be 22% payed when receive salary, 22% saved pension payment, 225 payed when take from pension = -22%

Also, there is a difference of around £3000 between the normal tax free allowance and the age related allowance. So it is possible you would pay have payed 22% above the normal tax free allowance, but when draw pension it is under the age related allowance, so tax free. This £3000 over 25yrs would equate to an extra £16500 tax free on top of the normal 25% tax free?