LISA - is it worth it?

jamels2

I've read that pensions are tax free to put money in, but I have to pay tax to get it out. Whereas an ISA I fund it with money already taxed, but don't pay any tax at the end to get it out.
With inflation wouldn't it be better to pay the tax initially while it's less instead of 30 year time when it could be a lot more?

dmelife

Are you seriously questioning joining the pension scheme? ITS FREE F’IN money!!!!! Do some more reading!!!!

bowlhead99

jamels2 wrote: »

I've read that pensions are tax free to put money in, but I have to pay tax to get it out. Whereas an ISA I fund it with money already taxed, but don't pay any tax at the end to get it out.

Correct, but

a) you can take a quarter of the pension out as a tax free lump sum when you start taking the pension (or as smaller sums over time), so paying tax on the way out is not going to cost you as much as you think it might.

b) the rest of it is taxable at your marginal tax rate. But everyone gets a personal allowance, right? So if you drew out £13,000 of taxable income from the pension but you didn't have any other income as a 60-year old retiree, and the first £12500 of your income only attracts 0% tax, you are only paying basic rate tax on the last £500, which at 20% is £100. So the effective rate of tax paid in retirement (£100 on £13000 of income) is less than 1%, while you are getting 20% tax relief today.

With inflation wouldn't it be better to pay the tax initially while it's less instead of 30 year time when it could be a lot more?

No.

Imagine you invest £1000 now, before tax, and it goes up in value 5x from what you invested, to £5000 in the future. Then you take it out and pay 20% tax on the £5000, so you are left with £4000.

Alternatively, pay your 20% tax on £1000 now, and you'll have £800 left over. Then invest the £800 and watch it go up in value to 5x what you invested, so the investment is worth £4000. Then there is no tax to pay, so you're left with £4000.

So, it wasn't 'better to pay the tax initially while it's less'. The tax while it's less is £200, whereas the tax after its grown might be £1000. But the investment return net of tax is the same, because the investment growth rate was the same (5x growth) and the tax rate was the same (20%)

And if the investment return net of tax from the pension is the same when the tax rate in and out is the same ... you can imagine that it's much better when the tax rate in the way out is lower than it was on the way in. Because in the example I gave above, you could take a quarter out tax free and only pay 1% on the rest. So, a lot lower than the 20% relief claimed on the way in. So the net return would be better in the real world, if you used a pension instead of a normal ISA.

Also unlike an ISA, a pension is outside your 'estate' for inheritance tax, and its investment value doesn't count against you for means tested benefits, or if creditors are chasing you in a bankruptcy they can't take it.

SonOf

jamels2 wrote: »

I've read that pensions are tax free to put money in, but I have to pay tax to get it out. Whereas an ISA I fund it with money already taxed, but don't pay any tax at the end to get it out.
With inflation wouldn't it be better to pay the tax initially while it's less instead of 30 year time when it could be a lot more?

You have read and/or understood wrong.

If you pay into an ISA, it is from money that has been taxed already. There is no tax relief in and there is no tax on the way out.

If you pay into a pension, you get tax relief to return the tax you have paid. On the way out, the pension is taxed at an equivalent of 15% if you are basic rate taxpayer. Only income above your personal allowance is taxed. So, usually you will have nearly £4k a year personal allowance free to use if you retire at or after state pension age.

So, ignoring employer contributions, pension gives you more money than ISA.

However, employer contributions effectively double your money. An ISA can never get near that.

With inflation wouldn't it be better to pay the tax initially while it's less instead of 30 year time when it could be a lot more?

No. That is not how it works.

If you put £100 into an ISA then you put £100 in and get £100 out.

If you put £100 into the pension you get tax relief making it £125. You are then taxed at 15% equiv giving you£106.25 out

£106.25 after tax beats £100 before tax.
If the employer matches your contribution, the pension gets even better as that £100 gets £25 tax relief and £100 from the employer. Making £225. £225 taxed at 15% equiv is £191.25.

If the workplace pension uses salary sacrifice then the figures are even better in favour of the pension.

Returns are identical on the same funds held in an ISA or pension. So, the pension will always be higher than the ISA