ISAs v Pensions: The Official Retirement Debate

jamesd

Why are you sure that an ISA is immune from a future government declaring that say all ISA funds of rich people will be taxed as usual? This hypothetical government might then say that anyone with ISA "savings" of more than 50k or 100k is rich, hurting everyone using it for pension planning but not those of low income relying on state schemes.

Nothing is immune from legislative risk.

EdInvestor

In the long run, earning growth cannot exceed nominal GDP growth, which is currently around 2.5%. The historicaly 7% projection was based on high nominal GDP (and also high inflation world) and may or may not be true going forward.

Nominal share returns are based on 3 things: GDP growth, as you say, dividend yield, and inflation. Real (after inflation) returns are based on GDP plus dividend yield.

The market dividend yield at present is around 3%, and UK GDP growth is around 3.5% with inflation at around 3.5%.Of course you have to take charges into account as well, and they can knock of 2 or even 3% at times.

Those who invest in shares paying higher dividends and cut charges to the minimum should do better in the long term

NeilW

I actually prefer the third way and hold my assets 'bare' , but in joint names which gives me access to the maximum amount of capital gains allowance while keeping the 'pot' as one lump sum.

My assets are all direct share investments in big boring companies that won't light any fires but will probably be around in some shape or form when I retire and beyond.

I find that the general wriggle amongst the companies manages the capital gain pretty well, and it takes quite a few years of cumulative growth to build up over £17,600 of gains anyway. Plus that amount grows every year.

I have had ISAs in the past, but I found them restrictive. They slice your pot up in inconvenient ways and the 'tax benefits' can stop you allocating your assets to the best opportunity because you don't want to lose that special status.

Pensions are even worse since the capital is locked away essentially forever and the rules keep changing every ten minutes. Again I have pensions but only from jobs where they gave me 'free money' as long as I matched the employers contribution. That money is now in a SIPP

I suspect that if I do use tax wrappers in the future it will be a self-select ISA, simply because I believe in 'progressive retirement'. I don't want to be flogging my guts out waiting for the day I become 55. I want a slow steady build up of assets and income from those assets which I can allocate as it arises as I see fit, reinvest when I feel that is appropriate and spend when I want to.

I'm fortunate in the line of work I'm in that I've had dealings with some very wealthy individuals - all self-made. What I have learnt is that they don't do what it says in the FSA manual and they don't necessarily do what appears on the surface to be the most tax efficient or even capital efficient way of doing things. But they do make money.

Now I may not be as skillful or charismatic as they are, but I'm a good listener and learner. I've learned to question received wisdom from 'experts' with vested interests. I've learned that humans are very good at dealing with the here and now, but very bad at 40 or 50 year planning. And so far I'm doing OK - house paid off, no debt, reasonable asset base, I'm home by 5:20pm on a three and a half day week so I can spend time with my toddlers.

Diet planning is very simple: Don't eat too much, eat more greens and exercise more.

Retirement planning is similarly very simple: Accumulate assets that pay a rising income so that you eventually you can replaced earned income with investment income.

It isn't any more complicated than that.

Everything else (including the tax wrapper debate) is merely a distraction.

EdInvestor

My assets are all direct share investments in big boring companies that won't light any fires but will probably be around in some shape or form when I retire and beyond.

I follow much the same strategy.If you do this, and additionally choose companies that pay good divis it is certainly quite possible to fund yourself from capital without bothering much with tax wrappers if you are in the basic rate tax band.

Effectively your income is tax free because of the divi tax credit and can be topped up with judicious use of the CGT annual allowance of nearly 9k.

But the ISA can come in handy if your income hits the 20k mark because age allowance is then clawed back in retirement. And of course it's also very useful if you want some lower risk investments like property or bond funds as well where the income is taxed on an interest basis.

dunstonh

On the face of it the ISA is the much better deal, all things being equal. I'm always amazed by how pathetic the annuity rates are on pensions, eg about 6% or 7% at the age of 60. There are cash savings accounts with almost that level of return.

So, for the personal allowances, you get 6-7% tax free guaranteed. There is no savings account that guarantees that. Just because you can get savings accounts near that level now, doesnt mean you always will. Just look at rates a few years ago.

I disagree that cash ISA is not suitable, epsecially for those who can afford and will stash away 3k per year, Especially at current rate where top paying Cash ISA pays 5.93% AER guaranteed.

Dont look at todays rates as an example. Savings rates move with interest ratse and you were getting 3% not too many years back. Also, cash historically fails to keep up with inflation. A cash ISA just about beats it so you are getting no real growth using cash ISAs.

For anyone who takes the stock and shares ISA route, remember to get a discounted broker to reduce your initial charge and annual charge to minimum. One does not usually have to worry about this with pension fund as your employer is likely to negotiate a good deal with the pension company already.

Not much use for those needing advice and nowadays the cost of advice is not that great on ISAs. (FSA publish average commission taken and ISAs are 1.8%).

bobmccluckie

Ewymac
I definitely have a view! Teachers' AVCs are a waste of time, particularly when you have the facility to buy extra years from your teachers pension.
So consider
AVC that has to buy an annuity when you retire
or
extra years bought in the teachers pension scheme linked to final salary and index linked.
What to choose?
Its a no brainer!

Andy_L

valmiki wrote:

stocks and shares ISA (via various index trackers) for me all the way baby!

...and I work in local government.

I would rather know what tax I have paid putting money into an ISA, rather than pay money into a pension, for which I won't know what I'll be taxed 30 years in the future.

Also, my employer's scheme is a final salary scheme but I don't know whether I'll still be working in LG when I retire, or what the terms of my retirement (age, etc.) will be. They have tried to change this recently so just because you get a few extra quid from the employer to put into a pension doesn't make it the icing on the cake, as you don't know how it will be taxed when you retire!

Remember, the population is aging, 30 years time, there will be a lot less taxpayers, the Gov will need their income from somewhere, so just be careful. With a pension, they'll be able to tax you how they want, with an ISA it's all tax-free. And I know I'll be leaving my kids a decent inheritance.

So, yes, in the long-term I may be a couple of quid down with an ISA, that's the risk but personally I don't think I will. I know I'd be really annoyed if I dropped dead one week after retirement, and lose the pension capital for an extra half percent return through an annuity!

Hmm, as a tax payer I salute you for opting out of the LGPS. As a MSEer it's not just a "few quid" you get from the employer, you're talking ~15-20% you're throwing away

jem16

bobmccluckie wrote:

Ewymac
I definitely have a view! Teachers' AVCs are a waste of time, particularly when you have the facility to buy extra years from your teachers pension.
So consider
AVC that has to buy an annuity when you retire
or
extra years bought in the teachers pension scheme linked to final salary and index linked.
What to choose?
Its a no brainer!

Unfortunately the purchase of extra years is now not available in England & Wales as from 1st January. In Scotland you can still purchase extra years but only up till 1st April.


It's now been superceded by additional pension which is simply an amount and not linked to final salary although is index-linked. Not as good IMO.

I suspect S&S ISAs might now be better for some.

NeilW

EdInvestor wrote:

But the ISA can come in handy if your income hits the 20k mark because age allowance is then clawed back in retirement. And of course it's also very useful if you want some lower risk investments like property or bond funds as well where the income is taxed on an interest basis.

Income is clawed back outside retirement if you have kids. The marginal tax rate for anybody receiving Tax Credits is 70%. And Tax Credits apply for family incomes up to £50K. It ain't just 'poor people' that are affected. According to ONS about 3/5ths of the population are in that income range.

That's one of the reasons I only do a short week. I can't see the point in working for 30p in the pound. I'd rather concentrate on building the capital side which isn't assessed - at least while the kids are small.

NeilW

dunstonh

Remember, the population is aging, 30 years time, there will be a lot less taxpayers, the Gov will need their income from somewhere, so just be careful. With a pension, they'll be able to tax you how they want, with an ISA it's all tax-free. And I know I'll be leaving my kids a decent inheritance.

And the Govt can wipe out the tax free status of ISAs overnight if they wanted.

stocks and shares ISA (via various index trackers) for me all the way baby!

...and I work in local government.

I would rather know what tax I have paid putting money into an ISA, rather than pay money into a pension, for which I won't know what I'll be taxed 30 years in the future.

Andy says it well in his response.

You are willing to throw all that free money away for a guaranteed pension that you mistakenly believe will be beaten by tracker funds which rarely if ever go above sector average performance?

Unless you are paying around 15%-20% of your income into these trackers, you wont come close to what the occ scheme would give you.