Stocks & Shares ISA newbie questions ...

AdamBrunt

Hi all,
Bit of newbie in terms of ISAs so, please, be gentle
Stocks and Shares ISAs are presumably riskier than a normal cash ISA but potentially give far better returns, right ? I assume they are also a lot less hassle (and more successful) than a regular Joe Bloggs doing their own trading ?
Do they have any drawbacks ? And any reason why would pay into one rather than just pay more into a pension unless of course you are at the pension limit ?
Quidco are currently doing £310 cashback for a £20k lump sum investment in a Shepherds Friendly Stocks & Shares ISA

Albermarle

Stocks and Shares ISAs are presumably riskier than a normal cash ISA but potentially give far better returns, right ? 
Generally correct but I would miss out the 'far' . Also the longer you hold any investments the lower the risk , according to all historical data.
You have to be clear that the ISA ( or pension ) do not give you any returns . It is the investments you hold within them that produces the returns ( and losses) .
The difference between a S&S ISA and a pension is the tax treatment . The pension has a minimum 6.25% tax advantage ( can be a lot more depending on your particular circumstances) but is not accessible until your mid to late fifties .
Quidco are currently doing £310 cashback for a £20k lump sum investment in a Shepherds Friendly Stocks & Shares ISA
Friendly society investments tend to be poor value for money and this is no exception
There is no choice of investment at all , only a lower risk/low return with profits fund. Maybe OK for the cautious, except for the very high charges - 2.35% + 0.22% initial . 

AdamBrunt

Albermarle said:

Stocks and Shares ISAs are presumably riskier than a normal cash ISA but potentially give far better returns, right ? 
The difference between a S&S ISA and a pension is the tax treatment . The pension has a minimum 6.25% tax advantage ( can be a lot more depending on your particular circumstances) but is not accessible until your mid to late fifties .

  But there is a limit on how much you can put in a pension per year, right ? I am 52 (about 10 years away from retirement) and a 40% tax rate payer. Would it be more advantageous to dump it in the pension pot ?

Albermarle said:

Quidco are currently doing £310 cashback for a £20k lump sum investment in a Shepherds Friendly Stocks & Shares ISA
Friendly society investments tend to be poor value for money and this is no exception
There is no choice of investment at all , only a lower risk/low return with profits fund. Maybe OK for the cautious, except for the very high charges - 2.35% + 0.22% initial . 

  Thought that might be a case. So an ISA which is predicting a 3% return but with a 2.35% charge is not very good at all then - even compared to a cash ISA ?

Albermarle

For a 40% taxpayer paying into the pension as the first choice is a no brainer. Many higher rate taxpayers who can afford it max out their pension contributions in the last few years of working ( after the mortgage is paid, kids grown up etc) Also before this very generous system is withdrawn one day .
For every £60 you contribute from your taxed pay effectively a £100 goes into your pension. When you withdraw then you get 25% tax free and normally the rest taxed at 20% - so £85 back . A gain of 41,7% .
Exactly how it works depends on how the pensions contributions are made 
Presume you already pay into an employer pension?
However you can not get back more 40% tax relief than you have actually paid in a tax year . Seems obvious but many people think that because they earn £51K then all pension contributions will get 40% tax relief.
After that there is a max limit of £40K pa , including your contributions , tax relief and employer contributions.

AdamBrunt

Albermarle said:

Exactly how it works depends on how the pensions contributions are made 
Presume you already pay into an employer pension?
However you can not get back more 40% tax relief than you have actually paid in a tax year . Seems obvious but many people think that because they earn £51K then all pension contributions will get 40% tax relief.
After that there is a max limit of £40K pa , including your contributions , tax relief and employer contributions.

So; I am on an annual salary of £60k+ and paying into a employer pension [ currently 5% employee and maxed out 4% employer ]. Will shortly be mortgage free [ roughly10 years away from retirement ] and will have an extra £650 per month to play with.
So, in theory, in a rolling 3 year period you could pay in £120k but would only get tax relief on £40k of it ? Or on £60k of it ?

bowlhead99

AdamBrunt said:

Albermarle said:

Exactly how it works depends on how the pensions contributions are made 
Presume you already pay into an employer pension?
However you can not get back more 40% tax relief than you have actually paid in a tax year . Seems obvious but many people think that because they earn £51K then all pension contributions will get 40% tax relief.
After that there is a max limit of £40K pa , including your contributions , tax relief and employer contributions.

So; I am on an annual salary of £60k+ and paying into a employer pension [ currently 5% employee and maxed out 4% employer ]. Will shortly be mortgage free [ roughly10 years away from retirement ] and will have an extra £650 per month to play with.
So, in theory, in a rolling 3 year period you could pay in £120k but would only get tax relief on £40k of it ? Or on £60k of it ?

Yes you could pay in £120k and would be able to have tax relief on all of it, but the relief would only be at 40% for the element of your earnings that were being taxed at 40%.  The rest of it would get relief at basic rate.

For example if you were earning £65k and putting 5% (£3.25k) into your employer pension your taxable pay would be £61.75k; only £11.75k of that is over the higher rate tax threshold so if you put more into a pension, only the first £11.75k of gross pension contributions will get 40% relief (costing you  £7.05k of after-tax salary). The rest of the money you put in could only get up to 20% relief (e.g. £10k costs you £8k net, £20k costs you £16k net etc).

The £40k a year annual allowance gives you the ability to put up to £40k gross into a pension between you and your employer in any tax year as long as you have salary or employer contributions in that year to cover it. So yes that would be £120k over three years, and some of it would get higher rate relief while some of it would only get basic rate relief. 

For completeness, the annual allowance does have a 'carry forward' feature so that if you have unused annual allowance you're allowed to carry it forward for up to three tax years and use it later, again as long as you have salary or employer contributions in that later tax year to cover it.   For example if in 2019/20 tax year you and your employer contributed 9% of a £65k salary to your work pension, and nothing to any private pension, you have used a bit less than £6k allowance out of a possible £40k, and have £34k that could be carried forward to this year or next year or the year after, which could be tapped into after you have used up your £40k allowance for those later years.  If this year you wanted to make a £50k gross contribution, you could, because it would first use up this year's £40k allowance and then use up a bit of the spare from last year. But whatever your put into the pension for a given tax year is limited by whatever you earn that year, so if this year you earn £65k and get 4% from your employer, the maximum gross amount you could put into a pension this year would be £67.6k; if you did that you'd use up this year's full £40k (with nothing to carry forward) and eat up £27.6k of spare allowance from previous tax years. 

Assuming you're not in the position to be making £120k of gross contributions every three years (because you only have £650pm spare), some of the above will be a bit academic -  but it's useful to know that if you do have the odd lump of £20k here or there that you're considering investing, you won't have too much of a practical problem fitting it into your pension allowances. 

If you have money burning a hole in your pocket, the most efficient thing to do is try to put all your 'higher rate' salary into a pension and maximise the higher rate relief you could get, but there is no rush to get basic rate relief now if you could instead use the same spare money to get a better rate of relief later. For example, if you earn £70k you have £20k of earnings that would be paying higher rate tax relief, less your  £3.5k of work pension contributions, so the max gross pension that could get higher rate relief this year is £16.5k, which would cost about £10k after the relief.  So if you have £20k that you were thinking about putting into an ISA this year it's a bit inefficient to dump it all into a pension this year when only about half of it would get higher rate relief and the other half get basic rate relief.  It would be better to put half into the pension, the other half in an S&S ISA, and then next year put the ISA money into the pension to grab more higher rate relief again.

The caveat to 'cram it all into a pension' is that once it's in a pension you can't get it out until you're old enough (and once you draw anything out as pension income, it will restrict how much you can put in, in future), so only put it in if you can definitely do without the money until retirement. It would be frustrating to have £20k that was going to go into an ISA, but instead put it in a pension for the obvious efficiency, and then get fired from your job next week and not be able to get the £20k back for several years.