Using a Lifetime ISA to save for retirement

Should I save in a Lifetime ISA instead of a pension?

Whether the Lifetime ISA works for you as a pension — as an alternative or complementary savings option — is complicated, and depends on several factors.

You will need to consider your personal situation, your employment and your tax status. We cover the key points here; if you’re unsure, please seek independent financial advice.

How is the Lifetime ISA taxed compared to a pension?

Lifetime ISAs and pensions are taxed differently.

With a pension, you pay in with pre-tax money, or get the tax back when you contribute. You get tax relief on the whole contribution. You pay no tax on the first 25% you withdraw, but you’re taxed on the rest when you withdraw it.

A Lifetime ISA is the other way around: you contribute money you’ve already paid tax on, but eligible withdrawals are tax-free.

For both there is no tax to pay on any interest, dividends or capital growth earned before the money is withdrawn.

I’m in full-time employment and have a pension. Should I get a Lifetime ISA?

If you’re employed, you may receive employer-matched contributions towards your workplace pension. Your employer has no obligation to make and/or match contributions to your Lifetime ISA.

As a rule of thumb, if you’re employed, continue to pay into your workplace pension and reap the benefits of the employer-matched contributions. These contributions are likely to outweigh the Lifetime ISA 25% government bonus.

I’m employed and a higher rate taxpayer, should I get a Lifetime ISA?

As a higher rate taxpayer, you get 40% tax relief on your pension. Additional rate taxpayers get 45%. This saving easily beats the government’s 25% top-up on Lifetime ISA contributions.

Which one gives me access to my retirement money sooner — a pension or Lifetime ISA?

A pension, as according to current HMRC rules, you’re allowed to access your money once you’re 55. Please note that this minimum age may change before you reach 55.

With the Lifetime ISA, you can access your money at any point if you need it, but you will pay a penalty if you choose to withdraw it before you’re 60 and it’s not to buy your first home, or because you’re terminally ill. Take a look at Can I access my savings?

I’m self-employed. Should I save for retirement with a pension or Lifetime ISA?

If you’re self-employed, you won’t have a workplace pension and you won’t benefit from employer-matched contributions. So a Lifetime ISA — and the 25% government bonus — may win over a stakeholder pension or SIPP.

However, the more suitable option for you will also depend on your tax status and personal situation:

  • Self-employed higher rate taxpayers will benefit more from paying into a pension as the tax relief wins over the Lifetime ISA bonus.
  • It’s not as clear cut for self-employed basic rate taxpayers though, and it’ll be about working out which scheme is best for you.

I’ve got a pension already, should I also have a Lifetime ISA to save for retirement?

If you’ve maxed out contributions on your workplace pension and you want to save more, the Lifetime ISA could be a good option.

As you must pay tax if the savings in your pension pots exceed £40,000 in a year, or £1 million in total, if you’re going to reach either of these pension limits, the Lifetime ISA might work as a good complementary way to save for later in life.

Is a Lifetime ISA more flexible than a pension?

If you’re unsure of what you’re saving for, the Lifetime ISA offers more flexibility than a pension: you can use it to save towards buying your first home, retirement, or both. A pension is only for retirement.

If you need to access your money ‘early’ (and not because of a critical illness or death), and you’re willing to pay a penalty, the Lifetime ISA wins. Other than critical illness or death, pensions don’t allow early withdrawals.

However, if you already think there is a good chance you’ll need to access the money, you may be better off with a normal ISA as you’ll have to return the government bonus and pay a penalty.

I’m unsure what my final country of residence/retirement will be. Will I be able to access my Lifetime ISA savings from abroad once I’m 60?

According to the government’s rules, you will be able to access your Lifetime ISA funds from abroad once you are sixty without penalty.

But bear in mind that as with any ISA, you cannot contribute if you are not UK resident.

Head-to-head: the Lifetime ISA vs the pension

Lifetime ISA Pension
Age to open one 18–39 Any age, but usually when you start working
Annual contribution limit £4,000 The annual allowance is £40,000 per year, but may be lower for those with income of more than £150,000.
Government contribution 25% bonus on annual contributions Tax relief on contributions up to your ‘relevant earnings’ (not including rental income, interest or dividends)
Employer contributions None A minimum of 1-3% for auto-enrolment. More about pension employer contributions
Max contribution age 49 None. Although once you’re 75 you no longer get tax relief on contributions
Lifetime savings limit Contributions: £128,000
Government bonuses: £32,000 (Assuming you open one when you’re 18)
£1 million — the lifetime allowance. Includes your contributions, employer contributions and investment growth
Use of savings To buy first home less than £450,000, once you’re 60, if you’re critically ill Anything you want, once you’re eligible to access your savings. However, after withdrawing the first 25%, withdrawals will be taxed as income.
Age to access savings Any age, but if you want to access your money before you’re 60 and it’s not to buy your first home or a critical illness you will incur a 25% penalty 55
Investment options Cash ISA or stocks and shares ISA Investment options are varied and include more than those of a Lifetime ISA. The main exclusions are residential property and ‘tangible moveable assets’ such as antiques and paintings.
Tax on interest earned / investment growth None None, provided the total value is within the lifetime allowance
Tax relief Tax-free withdrawals Tax-free when you pay into it, taxed when you withdraw
Early / ineligible access penalty A government penalty of 25% on the total value of the withdrawal No early access allowed, except for certain circumstances such as poor health, if you’re in a profession with a low retirement age, or if you have a protected pension age.
Funds accessible if living abroad when 60 Yes Yes
Contributing to someone else’s Yes Yes
Inheritance tax benefits Only for your spouse Yes — it doesn’t form part of your estate when you die

A Lifetime ISA may not be right for everyone

As with all investing, your capital is at risk. Tax rules may change in the future. If you are unsure if a Lifetime ISA is the right choice for you, please seek independent financial advice.

  • You must be 18–39 years old to open one.
  • If you need to withdraw the money before you’re 60, and it’s not for the purchase of a first home up to £450,000, or a terminal illness, you’ll pay a 25% government penalty. So you may get back less than you put in.
  • Compared to a pension, the Lifetime ISA is treated differently for tax purposes. You may be better off contributing to a pension.
  • If you choose to opt out of your workplace pension to pay into a Lifetime ISA, you may lose the benefits of the employer-matched contributions.