Should you invest in a pension or an ISA? Is there a decisive answer to the eternal SIPPs vs ISAs question?
Well… almost. We can make a few immediate statements that provide clear direction – although the decision tree gets pretty thorny after that:
- If you hope to live off your investments before your minimum pension age1 then a stocks and shares ISA is the clear winner.
- Employer pension contributions are an unbeatable leg up. Take them, take them, take them. It’s free money, unless you plan on dying a rock ‘n’ roll death before age 55. (Pro tip: almost nobody does.)
If you’re self-employed, or have hoovered up your employer’s match, then much depends if you’re contributing to your SIPP (or other pension type) at the higher-rate of income tax or at the basic rate:
- Paying higher-rate tax? Then prioritise your pension accounts over ISAs.
- Paying basic-rate tax? Then the choice between a SIPP and a Lifetime ISA (LISA) is finely poised. We’ll delve deeper into this below.
- If you’re a young basic-rate taxpayer who won’t retire until State Pension age, an ISA may beat a SIPP in certain scenarios. Again, we’ll explain more below.
The Kong-sized caveat to all this is that future changes to the tax system may move the SIPP vs ISA goalposts.
Will you still need me, will you still feed me, when I’m 71?
Britain has both an aging population and a low productivity problem. It’s a recipe for more of us getting old and relying on a shrinking base of workers, who aren’t generating the higher economic output needed to bridge that gap.
No wonder retirement horror stories are floated in the press as often as disembodied heads in a Harry Potter movie.
Running with the metaphor, threats to scrap the State Pension triple-lock surface ahead of every Budget as predictably as Hollywood does sequels.
Meanwhile the age when the State Pension kicks in – and by extension when you’ll be able to access your own SIPP savings – is also a moving target.
Current legislation has the State Pension on-track to rise to 68 sometime between 2044 and 2046.
But with the dependancy ratio of workers to retirees set to hit 50% by 2050, some experts are warning this will soon need to rise to 71.
Such moving targets aren’t just frustrating for older people who are close to cashing in their workday chips.
They also make it very hard for young workers to plan for the future, especially given that – as we’ll see below – the best strategy often comes down to fine margins.
You can have it all
Tax-strategy diversification can help you deal with all this uncertainty. It involves you diversifying your tax shelters, irrespective of their current pecking order.
Spreading your savings across your tax shelters makes the most sense for young people for whom retirement is decades away. But the technique is worth everyone else considering too, because SIPPs and ISAs hedge against different tax risks. We’ll come back to that.
With those broad ISA vs SIPP principles established, I’ll take you through the reasons why, in the least painful way I can. (Keep your aspirin on standby though, just in case…)
To set the scene, let’s first recap what ISAs and SIPPs have in common, and what sets them apart.
Terminology intermission: I mostly talk about SIPPs in this article but the conclusions apply equally well to other defined contribution (DC) pensions, such as Nest-style auto-enrollment Master Trust Pensions. I’ll use the term ISAs to refer to all ISA types, except for the LISA. I’ll mention the LISA when its special features alter the SIPP vs ISA comparison.
SIPPs vs ISAs: these things are the same
SIPP or ISA? There’s nothing between them on the following counts:
| Tax shelter / feature | SIPP | Stocks and shares ISA |
| No tax on dividends | Yes | Yes |
| No tax on interest | Yes | Yes |
| No tax on capital gains | Yes | Yes |
| Invest in funds, ETFs, bonds, shares | Yes | Yes |
| Ceiling on lifetime tax-free income | No | No |
| Versions for children | Yes | Yes |
SIPPs vs ISAs: these things are different
ISA or SIPP? Well, on the other hand…
| Tax shelter / feature | SIPP | Stocks and shares ISA |
| Free of income tax on withdrawals | No | Yes |
| Income tax relief on contributions | Yes | No |
| Tax relief on National Insurance | Yes, with salary sacrifice | No |
| 25% tax-free cash on withdrawal | Yes, up to £268,275 | N/A |
| Access anytime | No | Yes |
| Annual limit on contributions | £60,000 | £20,000 |
| Employer contributions | Yes | No |
| Inheritance tax exempt | Yes | If passed to spouse, otherwise no |
As you can see, a SIPP gathers more ‘Yes’ votes than an ISA, and those advantages stack up.
Remember that ISAs are superior to SIPPs when access to your money before the normal minimum pension age is your priority.
However, the various tax breaks on offer combine to make SIPPs the best option for the bulk of most people’s retirement savings.
LISAs are a different kettle of tax wrapper. The dream combination of tax relief and tax-free withdrawals make LISAs an attractive option for basic-rate taxpayers vs pensions – under some circumstances.
The devil is in the detail and we’ll dance with him shortly. Before that, let’s talk tax-strategy diversification.
Tax-strategy diversification in retirement planning
Tax-strategy diversification for UK investors means spreading your retirement savings between your LISA, ISA, and SIPP accounts. It’s partly a defence against adverse changes to the tax system in the future.
The concept is analysed in a US research paper called Tax Uncertainty and Retirement Savings Diversification by Brown et al.
The paper examines the impact of tax code changes upon the traditional IRA and the Roth IRA. These two American tax shelters are analogues of our SIPP and ISA, respectively.
The authors make several key observations. So I’ve translated their US tax-shelter language directly into their UK equivalents, as follows…
SIPPs are negatively affected by income tax hikes in the future, and are positively affected by income tax falls.
For example, if you get tax relief at 20% but are taxed on retirement withdrawals at 22% then that’s a blow against pensions.
The reverse is true for ISAs. They’re taxed upfront and so enable you to lock in your income tax rate now. This is an advantage for ISAs vs SIPPs if tax rates rise in your retirement.
For example, you win if you took a 20% tax hit on the salary that funds your ISA contributions today but then the basic rate of tax rises above 20% by the time you come to withdraw tax-free in the future.
Meanwhile SIPPs offer a hedge against poor pension performance. If your investments are hit by a terrible sequence of returns then more of your withdrawals will probably be taxed at a lower tax bracket. This offsets some of the damage wreaked by bad luck, especially if you banked higher-rate tax reliefs when you were working.
The long game
The whole research paper is worth a read. But the following quotes provide particular insight on how future tax changes could boost or hobble SIPPs and ISAs for different demographics.
Future tax rates are more uncertain over longer retirement horizons. Our analysis of historical tax changes also suggests that the rates associated with higher incomes are more variable.
The paper’s authors found that income tax rates were much more volatile for high earners going back to 1913.
So it’s worth remembering amid the current gloom that the tax burden isn’t a one-way street. Income tax-rates fell dramatically in both the US and the UK in the 1980s. Higher earners also enjoyed more recent cuts in America.
As a result, the highest tax-risk exposures will occur among younger investors with sufficient traditional account [SIPP] savings to produce taxable income in retirement that exhausts the lower-income brackets. Young, high-income investors who are likely to meet these criteria can manage their exposure to tax-schedule uncertainty by investing a portion of their wealth in Roth [for us, ISA] accounts.
High-income investors increase their allocations to Roth [ISA] accounts when faced with uncertainty about future tax rates. At these income levels, reducing consumption risk in retirement by locking in tax rates today is more valuable than realizing a potentially lower tax bracket in the future.
Young, higher-earners are the most susceptible to steep future tax rises, according to this analysis. Thus tax-strategy diversification implies they should hedge against that possible fate by ploughing a significant portion of today’s income into ISAs. That’s because the danger with SIPPs is that future withdrawals may be made at tax rates that are higher than the reliefs on offer today.
I’d caution, though, that the biggest SIPP vs ISA gains come from taking higher rates of tax relief on pensions that are subsequently taxed at a retiree’s much lower income tax rate. UK income taxes would have to soar in the future to negate this advantage.
On the other hand, here’s a reason to invest in pensions that most of us would rather not think about:
Investors with sufficiently high current income must pay the top tax rate in the current period, however, such that the traditional [SIPP] account is preferable for higher-income investors who may end up in a lower tax bracket if the stock market performs poorly.
The case for a bit of both
Ultimately, the paper comes to a conclusion that I suspect many investors reach using their gut:
The optimal asset location policy for most households involves diversifying between traditional [SIPP] and Roth [ISA] vehicles.
Spreading your bets makes sense (as ever), especially when retirement is still a dim and distant prospect.
But that said, do bear in mind this is a US-focused study. Their income tax bands are more gradual than ours.
In contrast, our SIPPs benefit from a massive cliff-edge if you enjoy higher-rate tax relief when you pay in but your retirement income falls mostly in the 0-20% band.
This feature of the UK tax system tilts the playing field heavily in favour of pensions vs ISAs, as we’ll see.
ISA vs SIPP: when it doesn’t matter
You’re taxed upfront on money that goes into your ISA, but your withdrawals are tax-free.
SIPPs work the other way around. You pay less tax on contributions, but are subject to tax on money taken out. Thus UK pension vehicles can be thought of as tax-deferred accounts.
ISAs vs SIPPs is a dead heat when the tax deducted from your ISA contributions matches the tax you pay on pension withdrawals.
The amount of cash you can take out of each account is exactly the same in this situation, as shown in the following example:
| Account | Gross income | Net after tax | After tax relief | Withdrawal |
| ISA | £100 | £80 | £80 | £80 |
| SIPP | £100 | £80 | £100 | £80 |
The example tracks the value of £100 through the tax shelter journey, from contribution to withdrawal.
Think of it as comparing each £100 that you could choose to put in either your ISA or SIPP.
- Gross income is earned before tax.
- Net after tax is the amount left in your account after HMRC takes its bite.
- After tax relief is the value of your savings after any rebates.
- Withdrawal is what’s left of your original £100 once taken in retirement (based on current tax rates and ignoring investment returns because they’re ISA vs SIPP neutral).
A previous post of ours walks you through the underlying SIPP vs ISA maths.
But just to be clear, pensions always win when an employer contribution match is on the table. Pound-for-pound that doubles your money. Not taking the match is sort of like taking a pay cut.
Same difference
Employer contributions notwithstanding, the example above shows that the tax-saving powers of an ISA or a SIPP are evenly matched when:
- You’re taxed at 20% on the ISA cash you put in, and
- You’re taxed at 20% on the SIPP cash you withdraw
The amount of income you can take from each vehicle is the same, if the tax rates are equal. The order of tax and tax relief makes no difference to your investment returns, as The Investor has previously shown.
If both accounts gain, for example, 5% a year, then your SIPP’s balance will be larger than your ISA’s because there’s a bigger sum of money to grow after tax relief.
But the SIPP’s advantage is cancelled out by tax on withdrawal. Hence the Withdrawal value is identical for both accounts in this scenario.
If that’s the case for you then we need to head into an ISAs vs SIPPs tie-breaker situation.
ISAs vs SIPPs: tie-breaker situation
| Priority | ISA | SIPP |
| Access before pension age | Yes | No |
| Inheritance tax benefit | Spouse | Anyone |
| Means-testing / bankruptcy advantage | No | Yes |
| Tax-strategy diversification | Use | both |
Personally, if I was many years from retirement, I’d favour the accessibility of ISAs as a handy backstop. Just in case life took an unpleasant turn.
Some of you on loftier incomes may prioritise inheritance tax (IHT) planning. Monevator contributor Finumus came up with a particularly extreme – but seemingly legal – IHT avoidance wheeze using SIPPs.
However, the wisdom of tax-strategy diversification still suggests splitting your savings between both vehicles.
SIPPs vs ISAs: back in the real world
Because most people will be taxed at a lower rate of tax as retirees than they are as worker bees2, in practice pensions usually beat ISAs for retirement purposes.
Albeit LISAs are the wild card that can disrupt the SIPP vs ISA hierarchy.
Much depends on:
- How much 0% taxed cash3 your SIPP ultimately provides as a percentage of your retirement income.
- Whether your SIPP income is taxed at a lower bracket in retirement relative to the tax relief you snaffled while working.
To unpick the complexity, I’ll try to find the best-fit tax shelters for most people by running through some common retirement income scenarios.
And I’ll account for variations in individual circumstances by looking at key breakpoints that alter the ISA vs SIPP rankings.
Breakpoint 1: the tax shelter types available
I tested the tax efficiency of four accounts that are useful in retirement:
Salary sacrifice SIPP. This wrapper enables basic-rate employees to legitimately avoid 32% tax (20% + 12% NICs) while higher-rate employees avoid 42% tax (40% + 2% NICs)
SIPP. A standard pension account provides tax relief at the 20% and 40% rates but you still pay national insurance contributions (NICs)
Stocks and shares ISAs can deliver the investment growth needed for retirement.
As can LISAs which also accept investments.
Breakpoint 2: retirement income levels and stealth taxes
I’ve examined three retirement income levels that align with the research published in the Retirement Living Standards report.
These three tiers equate to a Minimum, Moderate, and Comfortable living standard in retirement.
However, I’ve adjusted the incomes to account for our current era of stealth taxes.
The UK’s tax thresholds are frozen until April 2028. That is a tax hike by any other name.
The Office for Budget Responsibility estimates this manoeuvre amounts to increasing the basic rate of income tax from 20% to 24%.
Rising rates of tax disadvantage pensions vs ISAs as noted earlier. So I’ve inflated the three retirement income levels by my CPI guesstimate up to 2028.4 This increased income requirement models SIPP withdrawals losing more to tax, as inflation erodes the lower brackets.
I assume that the tax thresholds rise with inflation after April 2028, as they should.
Breakpoint 3: how you use your personal allowance
The less your SIPP income is taxed in retirement, the better SIPPs do versus ISAs.
If you retire at age 55 and don’t receive a State Pension until age 67 then your SIPP’s tax performance improves – especially at lower retirement incomes – because a significant chunk falls into your personal allowance.
But the SIPP advantage contracts if your personal allowance is mopped up by the State Pension, defined benefit pensions, or by any other income.
Indeed, with the personal allowance frozen and the Triple Lock intact, the full State Pension could grow large enough to entirely fill the 0% income tax band by April 2028, or soon thereafter.
I’ve used that assumption in the examples below to guide anyone who thinks they’ll retire at State Pension age, or with a substantial source of alternative income.
Even if you retire early, the State Pension will arrive around ten years after your normal minimum pension age, after April 2028.
I account for this by modelling a 40-year retirement journey. This sees SIPP income cease to benefit from the personal allowance after the first decade.
Breakpoint 4: the fate of 25% tax-free cash
UK pensions are boosted by another blessed benefit. That’s the 25% tax-free cash that can be taken as a lump sum (PCLS) or in ongoing chunks (UFPLS).
Before the Lifetime Allowance was abolished, the tax-free sum used to automatically reduce a basic-rate payers overall income tax burden from 20% to 15%.
But that can no longer be taken for granted – because the 25% tax-free cash allowance is now capped at £268,275.
It sounds a lot as of today, but the Chancellor has said the limit is frozen.
- Frozen until April 2028 – after which it rises with inflation?
- Frozen forever? In which case inflation will eventually swallow it like light quaffed by a black hole.
It’s not clear, so I’ve tested both scenarios.
The first scenario is relevant to near-term retirees who can assume their tax-free cash allowance will retain most of its current value when they retire. Especially if they’re at the Minimal to Moderate income levels and inflation is tamed again (which helps if the cap doesn’t rise in future years).
The second scenario may make sense if you’re three or four decades from retirement, and the cap remains frozen in time while inflation crushes it.
Final preamble point: I’ve used UK income tax rates – though the results will still be relevant to most Scottish income taxpayers, with minor variations.
Right, at last, let’s get on with the key ISA vs SIPP examples.
SIPPs vs ISAs: £15,480 Minimum annual retirement income
Here, SIPP contributions are made at the basic income tax rate. The 25% tax-free cash cap is not reached during a 40-year retirement.
| Ranking | PA5 intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | LISA / Salary sacrifice | Salary sacrifice |
| 2. | LISA / SIPP | – | LISA |
| 3. | – | SIPP | SIPP |
| 4. | ISA | ISA | ISA |
- PA intact = SIPP income benefits from the 0% personal allowance (PA)
- Retire on State Pension = SIPP income does not benefit from the personal allowance
- 40-yr retirement = The ranking for a 40-year retirement journey that relies on SIPP income for the first decade, while the State Pension absorbs the PA thereafter. 25% tax-free cash may run out at some stage. (Though not at the Minimum income level)
The headline is that a salary sacrifice pension wins across a 40-year retirement journey beginning about age 57. That is, the normal minimum pension age.
But the LISA matches a salary sacrifice SIPP if you retire later with a full State Pension at age 67 (and/or a decent defined benefit pension etc).
A normal SIPP (‘relief at source’ or ‘net pay’) lags behind a LISA overall. Standard ISAs come last.
Despite this outcome, remember any pension is immediately catapulted above a LISA so long as your employer matches your contributions.
After you’ve trousered your employer’s contributions, you’re best off stuffing your LISA up to its £4,000 annual hilt on tax-strategy diversification grounds.
LISA contributions locked in at today’s tax rates will benefit versus pensions if taxes go up in the future.
Basic-ally no difference
Intriguingly, a normal SIPP only just scrapes in ahead of an ISA if you retire at State Pension age in this basic-rate taxpayer scenario.
You pocket £72.25 from a SIPP, and £68 from an ISA, for every £100 you originally contributed to each account. That’s only a 6.25% difference.
Such a slim margin suggests that diversifying between the two accounts is a sound idea. Albeit I’d still heavily favour my SIPP, given that small gains make all the difference at lower incomes.
If the 25% tax-free cash is eliminated
| Ranking | PA intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | LISA | LISA |
| 2. | LISA | Salary sacrifice | Salary sacrifice |
| 3. | SIPP | ISA / SIPP | SIPP |
| 4. | ISA | – | ISA |
The advantage swings in favour of LISAs if the 25% tax-free cash ceases to be a factor in reducing SIPP taxation.
For those retiring at the State Pension age, an ISA strategy even draws level with a SIPP in terms of withdrawal value: £68 a piece for every £100 contributed.
If I really believed that the 25% tax-free cash will whither to nothing then I’d overwhelmingly favour my ISAs vs SIPPs in this scenario.
However, I think it’s more realistic to assume that the 25% tax break will retain some residual value, even if you’re 30-40 years away from retiring.
SIPP contributions made at higher-rate taxpayer level
| Ranking | PA intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | Salary sacrifice | Salary sacrifice |
| 2. | SIPP | SIPP | SIPP |
| 3. | LISA | LISA | LISA |
| 4. | ISA | ISA | ISA |
Higher-rate taxpayer contributions lead to a decisive win for pensions in the SIPPs vs ISAs match-up.
LISAs and ISAs form the bottom half of the table in this scenario and stay there. Salary sacrifice and normal SIPPs continue to beat the L/ISA gang even if the 25% tax-free cash disappears entirely – and whether you retire at the Minimum, Moderate, or Comfortable income level.
LISAs do best SIPPs if you expect to earn around £75,000 per year in SIPP income. That’s because the tax-free cash cap is hit so quickly.
But for those of us operating below such Olympian heights, the higher-rate tax reliefs are the sweet spot for pension contributions – because 40%-tax workers are likely to become 20%-tax retirees.
SIPPs vs ISAs: £23,300 Moderate annual retirement income
SIPP contributions are made at the basic income tax rate in this scenario. The 25% tax-free cash cap is not reached during a 40-year retirement.
| Ranking | PA intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | LISA / Salary sacrifice | Salary sacrifice |
| 2. | LISA | – | LISA |
| 3. | SIPP | SIPP | SIPP |
| 4. | ISA | ISA | ISA |
Salary sacrifice outcomes continue to dominate normal SIPPs. That’s because they effectively gain relief on 32% tax, instead of 20%.
Meanwhile SIPPs only just beat ISAs across a 40-year retirement, and for those retiring at State Pension age. Narrow margins strengthen the case for tax-strategy diversification.
If the 25% tax-free cash is eliminated
| Ranking | PA intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | LISA | LISA |
| 2. | LISA | Salary sacrifice | Salary sacrifice |
| 3. | SIPP | ISA / SIPP | SIPP |
| 4. | ISA | – | ISA |
The ISA / SIPP draw occurs because the SIPP’s 20% tax relief on contributions is the same as the ISA’s 20% tax exemption on withdrawals.
The SIPP vs ISA rankings for higher-rate taxpayer contributions are the same as the Minimum income level, regardless of what happens to the 25% tax-free cash.
SIPPs vs ISAs: £45,109 Comfortable annual retirement income
SIPP contributions are made at the basic income tax rate in this scenario. The 25% tax-free cash cap is reached after 24 years of retirement.
| Ranking | PA intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | LISA / Salary sacrifice | LISA |
| 2. | LISA | – | Salary sacrifice |
| 3. | SIPP | SIPP | SIPP |
| 4. | ISA | ISA | ISA |
As before, SIPPs only just beat ISAs across a 40-year retirement, and if you stop work at the State Pension age.
LISAs top the table across a 40-year retirement because the tax-free cash spigot splutters dry after 24 years.
However, it’s possible to avoid this fate by pulling out your 25% tax-free cash as a lump sum (PCLS) before the ceiling is reached.
Ideally, you’d get it all under ISA cover as quickly as possible. Once in an ISA your money can continue to grow tax-free without limit. (That is, as if the tax-free cash cap had not been introduced.)
How doable is that?
Sheltering your tax-free lump sum
Let’s say you retire in late March and deliberately leave that year’s ISA allowance free until then. That’s £20,000 under your tax shield straightaway.
The tax year clock ticks on to April 6. Now you’ve got another £20,000 worth of ISA to fill with newly-minted 25% tax-free cash.
Perhaps you also have some emergency cash standing by, an offset mortgage facility, or other cash savings?
With a bit of planning, you can use these resources to expand your flexible ISA’s elastic band in the years before your retirement date.
Check out the ‘Flexible ISA hack to build your tax-free ISA allowance’ section in our ISA allowance post. (Hat tip to Finumus who came up with the idea.)
Double your ISA allowance numbers if you have a trustworthy significant other.
You’ll be able to stash a bit more tax-free in General Investment Accounts, too. However, the much-shrunk dividend tax and Capital Gains Tax allowances mean that only a smidge of your subsequent returns will escape HMRC’s tractor beam.
All the same, you’re better off being taxed at dividend and capital gains rates than income tax rates. Hence you should withdraw any 25% tax-free cash as soon you can, once you look like you’ll hit the cap. It’s better out than in.
If the 25% tax-free cash is eliminated
| Ranking | PA intact | Retire on State Pension | 40-yr retirement |
| 1. | Salary sacrifice | LISA | LISA |
| 2. | LISA | Salary sacrifice | Salary sacrifice |
| 3. | SIPP | ISA | ISA |
| 4. | ISA | SIPP | SIPP |
Notice that a SIPP actually performs worse than an ISA in the main two scenarios. That’s because a ‘Comfortable’ income earner ends up being partially taxed at the higher-rate. This might happen to a basic-rate worker who saved into their SIPP from a young age, experienced outstanding investment performance, or suffered elevated tax rates in retirement.
The SIPP vs ISA rankings for higher-rate taxpayer contributions are the same as the Minimum income level.
The ranking is: Salary sacrifice SIPP, non-salary sacrifice SIPP, LISA, then finally ISA.
LISAs vs SIPPs: tie-breaker situation
There are quite a few scenarios that end in a draw between LISAs and pensions. Let’s head into the tie-breaker:
| Priority | LISA | SIPP |
| Access before age 60 | No | Yes |
| Can help to buy a house | Yes | No |
| Inheritance tax benefit | Spouse | Anyone |
| Means-testing / bankruptcy advantage | No | Yes |
| Tax-strategy diversification | Use | both |
I don’t think the few years’ gap in account accessibility is an issue. You can always drawdown harder on pensions until age 60.
Interestingly, the government seems to have cooled its jets on advancing the normal minimum retirement age in lockstep with the State Pension age.
Accessibility aside, the LISA’s low allowance, restrictions on contributions beyond age 50, plus the principle of tax-strategy diversification all suggest maxing out the LISA if you can.
That goes double if your financial position means that salary sacrifice actually makes you worse off. Hit that link for the gory details.
Pensioned off
There have probably been retirements that lasted less time than it took to write this post. Alas recent developments have not made the SIPP vs ISA question any easier to answer, I’m sorry to say.
But I hope this guide helps you think through the options. Assuming you haven’t lost the will to live in the meantime.
Do I need to plug taking your employer pension contributions one more time? Probably not…
Take it steady,
The Accumulator
P.S. Here’s more on how much should you should put in a pension and how much you need to retire.
Congratulations and well summarised! And desperately needed too, now that the pensions scenario has improved massively.
A couple of other advantages are:
The 25% tax-free pension commencement lump sum is almost ideally targeted to discharging a mortgage on retirement – this makes life easier for early retirees because keeping the mortgage on lets them use other savings to smooth the income, and paying off the mortgage with tax-free cash compensates for keeping it on longer than necessary. I missed this trick!
A second-order benefit of pension savings relative to ISAs that hopefully doesn’t and won’t affect any Monevator readers is that pension savings are protected from creditors until you reach 55 and they don’t count as capital assets for benefit payments either. So if financial calamity befalls you somewhere in your working life but you crawl back out of the wreckage your pension savings aren’t affected, whereas ISA savings would be liquidated.
Nice summary, TA!
However, presenting facts to the anti-pension bunch hasn’t worked in the past and I doubt it will work now. They never quite some to grasp that pensions have changed over the decades and the money is no longer held in some shadowy high-fee fund that you neither understand nor control.
There is another advantage of pensions over ISAs for those moving abroad.
The ISA concept is fairly unique, and there is no guarantee that the tax-free status of an ISA will be recognised in other countries. Therefore your nice ISA pot may well be taxed (on income and CGT) if you’re not a UK tax resident.
Most countries (in Europe at least) have similar pension schemes and are happy to treat the UK pension in the same way as their own, which often means tax-free growth (and taxed withdrawal as in the UK, but who cares since you got relief going in!)
Nice one!
Surprisingly I was in a pub this weekend talking about this to a mate who didn’t look massively bored, also after picking at smarter investing!!
Woah what a dull weekend your thinking!
Anyway I kind of put it to him like this:
Emergency fund
Company match pension – to full match – (don’t use above match level due to company pension costs usually being high)
ISA allowance to full
SIPP
if you can tick all these boxes then get a financial adviser because there’s probably some loopholes you can use
Now I’m thinking the SIPP / ISA (nISA) may be almost interchangeable, or maybe even use the SIPP as an emergency fund – get the 20% relief to begin with invest it, grow then pull some out when the roof caves in – allowing you to keep the 20% tax relief on the investment growth.
Even better if you’re a higher rate tax payer (for now anyway).
Dom
Congratulations on an extremely thorough article.
The tax relief comparison blackboard is the crux of it, with pensions maximise the tax relief going in and minimise the tax rate coming out.
Worth mentioning non taxpayers (some early retirees and non-working partners) can also pay £2,880 into a pension (£3,600 gross) to get 20% tax relief. If you can work it to get that money out within your personal allowance then that is 0% coming out and so a 20% windfall also.
The budget is a game changer for people like me who have gone the ISA only rather than SIPP route. Previously the tax benefit of pensions were the tax free lump and using up personal allowances in retirement or benefitting from lower tax rates in retirement. In many scenarios the benefit was just the tax saved on the tax free lump sum. When you take into account extra charges and previous inflexibility of pensions etc it just didn’t make sense to go for a SIPP or personal pension, unless you had free employer money going in. That has all changed.
The only question mark is changes to the taxation of pensions in the future. A 20% tax on all pension payments coming out would scupper many of the advantages for example.
Consideration has to be given to holding different asset types in different wrappers. ISAs are currently still good for cash savings in best buy ISA savings accounts (better rates than gilts which is the main ‘safe’ option for pension money).
I’m very surprised/rude* when anybody ever puts forward an argument that ISAs are superior to pensions to be honest
The same argument also on tax relief up-front also applies to VCTs and EISs
These become increasingly relevant once an investor has filled up their LTAs and can save more than their ISA allowances each year
Most readers of this blog will eventually fall into this position
However due to the high costs/risks of VCTs/EISs I generally prefer SIPPs>ISAs>VCTs/EISs
Higher rates of income tax in the UK are completely optional if you are willing to control your consumption for all tax payers. Whether this is fair or not is another question
* as the mood takes me
The financial calamity scenario Ermine mentions is why I invest in both an ISA and a pension.
In a crisis, the ISA’s liquidity should give us a bit of breathing space over and above our emergency fund. If that’s not enough, at least some of my retirement savings will be protected.
Great article, but I have a couple of questions.
I’m in my late 20’s and currently saving about 20% of post-tax pay into an ISA for short-term savings (house deposit), I also have a stocks & shares ISA purely for retirement, that I pay about 8% post-tax into, which is a Vanguard 80% lifestrategy fund with Charles Stanley. I then have a work pension scheme that matches up to 3%, so I pay in the 3% monthly there too (6% pre-tax total).
Ignoring the cash ISA, are you suggesting I should consider using a SIPP instead of the S&S ISA?
Thanks a lot
“Some like to hedge their bets by investing in ISAs and SIPPs.”
This is me, with the pots currently 50/50 but I may start putting more in the SIPP!
Excellent article, very well explained and that pension income recycling idea is pretty mind-blowing!
Wish I could persuade my anti-pension-saving friends to have a read!
I don’t think the “Death taxes” section is quite right in this article, it says:
“Most pensions aren’t liable for inheritance tax but will incur a 55% tax charge if you’re over 75 or you’ve made withdrawals already.”
What HMRC have to say on the subject is:
“If you were receiving a drawdown pension
The remaining money in your drawdown pension pot can be used to:
• provide a dependant’s pension
• pay a lump sum to anyone you wish
The scheme can use either of these options or a mixture of both.
The scheme administrator must pay Income Tax on the lump sum at a rate of 55%. They’ll normally deduct the tax before paying the lump sum.”
This is quite an important distinction once you are in retirement and one of you has a larger pension fund larger than the other
Effectively if you always had to pay 55% on any lump sum in the pension scheme you would still have to buy an annuity with a spouse’s pension to protect your husband/wife from a 55% tax charge
It actually looks like your spouse can use drawdown on a transferred fund on the same basis you did, which is good
I like the hybrid approach, and as an early thirty-something, I consider myself very lucky to have extremely low living costs, a decent public sector wage and a defined benefit salary. The hybrid approach is needed to cover the different stepped-retirement phases that a very early retiree will face – should things go well! I can’t dismiss the benefits of a pension, even with a final salary and somewhat extremely early plan to escape.
As a lower rate tax payer, I’ve accumulated a nice sum in an ISA across Cash and Shares. I see this as a way to bridge the gap between Early Retirement (aiming for 40) and modest final salary pension at approx 55/57.
From 55/57 to state pension age, I may need supplementary income, so a small top-up pension with flexibility would help (be it a SIPP, Stakeholder or other with an emphasis on low costs).
Getting the balance right between ISA and Pension in this case is tricky – my instincts suggest to focus on filling the ISAs, and drip a little additional pension in. As my salary starts to reach the 40% threshold, it’s probably worth taking maximum advantage of this, but not much beyond.
Then when I’m a zero – income pensioner at 40, I could take advantage of the government minimum top up with the £2880 contribution.
It all feels like an awfully long way off, but my spreadsheets show it’s possible. This article has given me a few ideas on how to be even smarter and more tax efficient.
The worries are any government rule changes for small pensions, big shifts to pension ages, and any changes to ISA rules.
I feel there’s an age-dependent aspect to this. Someone in their 20s is looking at their money in a pension being exposed to politicians’ whims for thirty years or more: risky. Meantime they might well be getting only 20% tax avoidance. There’s a case for them to use ISAs and then, in middle age when they are earning more while burdened with the expenses of children, mortgages and what not, use that ISA money for living expenses while contributing to a pension from earnings and avoiding 40% tax. Moreover, their pension money is now exposed to political risk for less time, and they might be pleased not to have used up any of their lifetime allowance on measly 20% avoidance. So: ISAs for the young, pensions for the ….. [insert your own euphemism].
@dearieme
I gotta disagree with you there
If you are a higher rate tax payer and/or your employer will tip your NI contributions into a pension the advantage of starting out with 50/60% more invested via a pension will always beat an ISA just because of compound interest
There is an interesting article in today’s Daily Telegraph how a pension saver just saving for one decade in their 20s will accumulate a bigger fund than someone saving for 40 years from their 30s
http://www.telegraph.co.uk/finance/personalfinance/investing/10742396/When-saving-for-10-years-pays-more-than-saving-for-40.html
Won’t putting money into a pension/SIPP at a younger age, getting 20%/40% tax relief and then letting the miracle that is compound interest do its magic work out better in the long run?
@neverland & @weenie
It doesn’t work out better if you need the funds before 55.
The minimum criteria is a “just enough” ISA to get you from your chosen retirement to 55, and then everything else through the pension to maximise tax advantages.
There’s an incentive to keep post 55 income close to, or under the £10k income limit, beyond which benefits are reduced.
Planning this to minimise tax, and maximise lifestyle, is the challenge!
@KISS
I’m very surprised by your comments
Suggest you look at the Telegraph article linked on compound interest on pensions
Return from ten years of contributions at 25 = Return from 40 years contributions at 30 = Return from two years’ contributions at birth (from parents presumably) [all at a 7% post fees return rate]
I.e. sort your pension out early enough and all your disposable income is free for other uses including ISAs or whatever
Suggest you plot this out on Excel for yourself
@Neverland: that’s another example of the common problem of excel-induced silliness. A spreadsheet cannot tell you much that’s useful if major considerations are omitted. How does the Tel allow for the risk of political fiddling? How for different tax rates at different ages? How for the risk of exceeding the lifetime allowance? How for the desirability of the money being accessible before 55/57/58 …?
@Neverland
I do wish I’d saved more in those early years, and wasted less on nearly-new cars, eating out, etc, which have left me with a large reminder around my waistline and lesser savings! Sadly there wasn’t much left in the early years for saving. I can’t argue against the magic of compound interest. We are in agreement, yet I can’t go back and change my former ways.
The point I’m trying to make, is that an all-in-the pension approach works for those approaching or passing 55, but there’s a tricky balance between ISA and pension for those retiring earlier. I will be able to live very well on a pension income at the £10k threshold, so there seems little advantage to aim for a pension much in excess of that.
There’s a risk of over investing in a pension!
@Dearieme
I do share your disdain for the use if Excel as a sacred tract rather than a tool for what-if scenarios
However:
1 For the last 20 years there has been the option to opt out of any change to pensions legislation on fund limits by freezing further contributions. If you have pre-loaded your pension in your youth that may well be an option available to you (it was for me)
2 ISAs are just are susceptible to government fiddling as pensions…..
take your pick, the bottle marked “drink me” or the cake marked “eat me”…
My spreadsheet shows that when we hit 55, we’ll have 45% in pensions (after taking PCLS), 25% in ISAs and 30% unwrapped. We can then use unwrapped and pension drawdown to bridge to state pension age while still continuing to do max ISAs, as we have done for many a year.
My plans wouldn’t work as well without pensions nor without ISAs, so to me there is no “which is best?” debate to be had.
Re point 2: I accept that they are susceptible, but doubt that they are just as susceptible. So why have ISAs been less fiddled with? Perhaps it’s because the money can just flee if the rules are changed? The point of pension money is that it’s trapped until the contributor is 55/57/58….
And another thing: pensions leave you exposed to increases to your rate of income tax, by any or all of (i) increase from (say) 20%, or (ii) merging of income tax with NI, or (iii) real-terms reduction in the higher rate threshold. The notion that it’s impossible to imagine any of these happening when the horizon is thirty years or more seems to me weak.
@gadgetmind
I do agree with you that in the near future people will generally need to use both ISAs and pensions if they want to take an early retirement
The only exception will be where both partners are fairly high earners with their own SIPPs AND they are willing to wait until 10 years before the state pension age
There pensions keep winning in my view because of the compounding power of untaxed-at-source savings
I think that will actually be a fairly high proportion of early retirees though, as who else will be able to afford to retire early?
@Neverland that Telegraph article is bizarre because it doesn’t take into account:
1) Most 21 year-olds start out with nothing at best and
2) hopefully they experience career progression
Most people are just in that much a better position to to save heavily at 45/50 than at 21/26. As you said earlier, tax is optional if you can reduce your consumption. But you tend to try and buy somewhere to live and set yourself up in that first part of a working life. These are consumption, and they’re more on the needs than wants
I’d also challenge that steady 7% real rate of return used to pump the contrast up. It’s telling that to make the story exciting enough they have to use return rates at the upper end of the FCA’s recommended range for projections
The theory’s uncontestable – it’s the practice that’s not well suited for the way people live
@KISS >The minimum criteria is a “just enough” ISA to get you from your chosen retirement to 55, and then everything else through the pension to maximise tax advantages.
As someone who is doing this and using both, you need much more than just enough ISA. An early retiree much hold a much higher cash buffer than someone who is working because otherwise they have zero resilience against the slings and arrows that life can throw. Mine is about a year’s worth of previous gross salary, and having to hold that in cash is a source of regret for me, because it is being destroyed by Government action by about a third every three years. However, the risk falls as I get closer to being able to spring a pension commencement lump sum, and of course a pension is an income of sorts.
ISAs also have value after you are drawing a pension where the latter is taxable 🙂
If you’re lucky enough to work for a company that offers a Corporate Wrap-style pension, then you may be able to have your company invest into an ISA for you rather than a pension, which would give you the best of both worlds. No tax on the way in or the way out!
@Ermine
I did max out my pension contributions in the part of my 20s (annual limits were a lot lower then) when I was a higher rate tax payer and now I am vey glad that I did
Recent research into wage progression of Generation X actually shows that wage increases with age in that cohort are much lower than previous generations
Essentially Generation X started out on higher earnings but then those earnings failed to grow as much*
This is factually borne out by the fact that many managing directors/partners or whatever “make it” in their early 40s or not at all
My base point is that most people’s income/outgoings financial situation will not get better than they find themselves in 20s/30s**
We are aren’t in that 40-year career with “the Firm” world any more
*I’m afraid I can’t remember the research piece I read it in. I’m not in Gen X by the way
**Unless they inherit money
The new pension arrangements and NISAs are very generous tax-breaks for the wealthy/prudent. It’s a great way to sock away a ton of cash right now.
Disappointingly I’m very illiquid at the moment!
@Neverland – stating that “saving for one decade in their 20s will accumulate a bigger fund than someone saving for 40 years from their 30s” is clearly false. Assumptions are chosen to shock someone with absolutely no understanding of compound interest, inflation and reality of earnings of a 30 year old vs 20 year old. I’ve got another statement instead. Given the assumption, to make up for a lump sum accrued for ten years of saving £100 monthly for ten years you’re gonna have to save £200 monthly for the next ten years. The assumption in the article is 7% interest, so it’s no surprise that after ten years you’re gonna have to save double the amount because 7% doubles the money in 10 years. Simple as that. There is more to it. When you get a pay rise of 10% it can be a hundred percent increase for your savings. Ten years of savings is what it is – a lot, can even be enough to retire. But on a salary in your 30s rather than 20s.
How about for a lower tax payer to save in an ISA and when earnings increase to reach higher tax threshold, the ISA money is gradually transferred to SIP adding an extra 20%?
What about the concern raised by eg Moneyweek that if you have even a moderate pension now with inflation over the years you are highly likely to hit the LTA and will therefore be subject to the 55% tax when taking the pension?
Their argument is that the value of money roughly halves every 12 years, but the LTA is a fixed amount at the point of retirement, not the present value of your savings. So even with relatively ordinary returns and dividends reinvested, people with a pension pot of eg around 30k at 30 years today will hit the LTA in nominal terms by 66 and be subject to tax on amounts over that.
Article is here (but behind a paywall): http://moneyweek.com/beware-the-pension-grab/
You can argue with the numbers but it seems to me the likely direction for the LTA will be down. Nobody knows what the system may look like in 30 years but that is a big punt to take, even if the tax benefits look great going in.
@ The Accumulator
Thanks for the excellent article. One question for you:
Elsewhere you have written that you and Mrs Accumulator only need an income of £20,000 in retirement. Given that the state pension for a married couple is £11,762 per year, the implication is that you only need to supplement that with £8,238 of private income. This could be achieved with pension funds of not much over £200,000.
Once your pension has reached or is anticipated to reach this level, wouldn’t it then make more sense to divert all savings into an ISA which can be accessed at any age? Every £20,000 you manage to accumulate would buy you one year of earlier retirement.
To put it another way, what is the point of being richer than you need to be from the age of 67 at the cost of working extra years because your money is tied up in an age-restricted wrapper?
This question probably only applies to people who plan to retire before 55 or 57 or whatever age the latest government allows you to access private pension wealth, otherwise you can start doing roughly what I’m suggesting, but spending your SIPP rather than your ISA. This is probably the biggest benefit of the new rules.
@ Neverland
I think it’s a fallacy to suggest that it’s better to compound savings in a SIPP based on the fact that no tax was paid on the way in and therefore the total balance that accrues will be higher.
The amount of tax you eventually pay will also have compounded, and if such a strategy has made you very wealthy you’ll end up paying higher rate tax on the way out, when you perhaps only paid basic rate on the way in – the complete opposite to what you should be aiming for.
To summarise – you can compound in an ISA with funds on which you have already paid tax, or you can compound in a SIPP without yet having paid any tax, but in both cases you’ll end up with only the net of the total funds accrued. They key is the rates of tax that are paid, not the vehicle in which your wealth accrues.
@florida; beat
I agree with you that pension legislation will change and the likely direction of the LTA is down in real terms; actually I think allowing a couple to build £2.5m of tax-advantaged pension savings is way generous
The last two governments have seen four momentous changes in pension private legislation:
– pension credit tax raid
– A day
– Reduction in LTA
– Removal of requirement to buy an annuity
(Before that defined benefit pension schemes were changed out of all recognition by previous governments to the extent they became commercially unaffordable, hence where we are now)
My point is that given the likely direction of travel you would be better to make your contributions early under a more generous system and then simply opt out of the changes by not making further contributions
You can slag off the Daily Telegraph article about compounded investment returns all you like, but the power of decades of untaxed (by government or financial intermediary) compounding for decades remains the same
@neverland — it’s nothing to do with slagging off, it’s mathematics. See my article on the maths of ISAs versus pensions linked to near the top of the article.
If it weren’t for quirks like the tax free lump sum, different tax bands, and employer matching, the compounding would be identical whether you’re taxed before or after.
Of course those quirks are very real and meaningful, which is why we can have a jolly old debate… 🙂
1 ISAs offer me the opportunity of retiring much earlier, as there is no limit on when I can get the money back.
2 My pension fund contribution is limited to the proportion of my income that would otherwise attract a 40% tax rate, where the pension becomes more interesting.
Most spare income below the 40% threshold is funnelled into my ISA.
I’m inclined to think that a bit of both is a good route. The flexibility of the ISA is really attractive, but I think you are right about meeting those long term financial goals. Do you think there are many serious drawbacks to the mixture of both?
@ Beat and Wallet – My aim is to be financially independent at 55. To do it I need the tax benefits of a pension: tax relief on the way in, no tax on the way out because our joint income will take maximum advantage of personal allowances.
I also need the 25% tax-free lump sum – then my ISAs will see some gorging. The State Pension isn’t due to kick in until 12 years after FI Day and so it will just be a nice bonus when it comes.
The only reason for me to use my ISAs is:
1. As a nice home for non-retirement funds e.g. emergency cash.
2. If I thought I could check out earlier than 55 (I don’t think I can)
3. If I’ve got contributions that only earn 20% relief now and will be taxed at 20% after retirement once I’ve taken the 25% tax free lump sum.
If things go spectacularly well in terms of 2. or 3. then I can always start stuffing ISAs later in the journey.
The ability to salary sacrifice into my pension scheme and the disadvantages of ISAs should Mrs A or I meet an untimely end are not to be underestimated either.
Florida and Dearieme both make fair points that the balance could tip against pensions in the future.
But the existing framework would have to be smashed to change my calculation. Even if Labour carry out their threat to scrap 40% tax relief, I’m still be better off with a pension that offers 25% tax free plus 20% tax relief now and 0% income tax on my personal allowance.
I don’t believe that it’s in the interest of any Government to fatally undermine confidence in pension schemes. Getting us all to fund our pensions properly is a national priority not a government conspiracy. Changes to pension rules are often positive e.g. the flexible pensions introduced in the budget and the Class 3A national insurance top-up scheme. It’s not all one-way traffic against pensions.
To be honest, if I ever have to worry about exceeding a £2.5 million joint life time allowance then I’ll be very pleased. Moreover, I don’t believe the LTA will be cut significantly further. I think there’s every chance it will have to be uprated against inflation over time.
Again, if you’re on the margins of these calculations then you should be able to take evasive action – either by diverting some contribs into ISAs now or later.
What is important is to sit down and sketch out your own circumstances and likely prospects. Then you’ll know which vehicle or mix of the two suits you best.
@ Neverland – yep, as stated you’ll avoid the 55% tax if your scheme allows for a dependent’s pension or you’re conducting phased withdrawal or a myriad of other kinks which can be waded through here: http://www.hmrc.gov.uk/pensioners/passing-tax.htm
@ Peter – It’s definitely worth a look, especially if you’re not going to retire before the minimum pension age. It depends on your circumstances. I think many people hedge their bets because there’s much heated debate for and against, so splitting the difference seems reasonable. But other people’s views better fit their circumstances rather than yours.
It is possible to plot a plausible escape velocity for yourself even when the goal is far off in the future. This piece may help you do it: http://monevator.com/financial-independence-plan/
the effects of compounding do give a huge advantage to investments started in your 20s, compared to only in your 40s. but this is nothing to do with the choice of tax wrapper – it’s about time in the market.
if you are only paying 20% tax in your 20s, but might be paying 40% later on, there is a good case for using S&S ISAs now, and maker larger contributions when you can get 40% relief on them (even if that means taking money out of your ISAs).
the tax advantage of pensions for somebody young, and only getting 20% relief, is quite marginal; and the tax system could be very different when you retire. if i were it that position now, i would probably hold off contributing until auto-enrolment forced my employer to offer matching contributions – when it would become a no-brainer.
i’m in the camp of using both, so that i can retire before 55 – or 57 – or higher: the consultation’s main proposal is to increase the point at which pensions can be accessed to 57, and then keep in 10 years below state pension age, but it also asks explicitly if it should be raised higher, e.g. to 5 years below SPA. this is the kind of regulatory uncertainty than makes me want to keep a foot in the ISA camp.
the impression that pensions are high-charging, opaque, and inflexible is taking a long time to fade. it used to be generally true.
One thing people often forget when arguing ISA’s vs Pensions is that
1. you just cant put enough in ISA’s and expect to retire early on ISA income alone. Pensions have to be in the mix, along with other savings and investments.
2. If you have a frivolous wife/husband then the ISA is at risk of being exchanged for tat well before retirement. Pensions protect you to some extent in case of relationship breakdown.
I am pro pensions and maximising to the full 40K PA contribution except if you are at an age when the age at which you can take it increases to 57, then I would still contribute but have to build up sufficient funds outside of pensions to maintain an age 55 retirement target.
Another area people overlook are VCT’s. They are providing good income now in the region of 6-7% or more pa tax free plus 30% income tax relief which is very attractive. the good thing is that you are getting the 7% from purchase where-as with pensions you have to wait until at least age 55. My experience of VCT’s so far has been good.
Subscribed 🙂
Great article – a bit of ‘lightbulb’ moment for me…. one question:
I’ve been reading Monevator for a few years now, and have built up several year’s S&S ISAs across a few passive tracker funds.
I have been considering setting up a SIPP as a vehicle to have a Vanguard Lifestrategy Fund (maybe the 60 changing to the 40 as I get older as described on here in the past).
Is a SIPP the best way to do this (ie if I don’t anticipate investing in many shares or funds)? I’ve seen comment elsewhere that ‘personal pensions’ compare favourably these days in terms of cost, but I wouldn’t know where to start without speaking to an IFA.
I’ve enjoyed the DIY approach to S&S ISAs after reading Hale & Monevator etc., and assume that picking a low cost platform to house a Vanguard (or similar) low cost diversified portfolio would be a prudent way to start saving into a pension?
Any comments appreciated.
> I wouldn’t know where to start without speaking to an IFA
You can access a PP at most of the major providers via Cavendish Online at better rates than going direct.
If you look at (for example) Friends Life, you’ll see they have a “Balanced Index Fund of Funds” that uses active asset allocation on top of (mostly) passive funds.
If this is too aggressive for you regards equity exposure, then you can add something else alongside or use one of their other managed funds.
I think you can probably get a PP with lower fees than most people manage to achieve within SIPPs, but it does depend on size of pot and what you want to invest in.
Thanks TA for hammering home these important points. Regarding the SIPP/ISA split I’ve currently got 70% of my (non-property equity) net worth in a SIPP and 30% in ISAs. Going forward I’d already decided to only add to the SIPP and not contribute further to ISAs for the very reasons in this article.
Come 55 I will probably take the 25% tax free lump sum and invest that into ISAs for additional tax-free income. As the blackboard says the sweet spot of SIPPs is getting 40%+ relief on the way in and using up your personal allowance – but no more – to pay 0% on the way out. And then topping that up with income from ISAs, which are still handy for emergency access before 55.
Only other comments are I wouldn’t bank on anything like the 7% real return used by the Telegraph.
And in my experience earnings spike between mid 30s and late 40s, the compounding argument is nowhere near as pronounced in real life due to the contribution profile. Call it a peak earnings decade. Merryn SW on Moneyweek discusses the cycle of income in a recent article.
You’ve forgotten to mention that if you are using salary sacrifice and are paying off a student loan you save this too. Also, if your employer rebates their 13.8% employer’s NI saving on the amount you sacrifice you benefit from this too. A £113.80 salary sacrifice pension contribution therefore costing £59 for a student loan paying basic rate tax payer. No brainer, especially given that the student loan interest rate is less than the rate of inflation and the loan itself functions more like a tax than a debt.
I think one thing forgotten in the SIPP/ISA debate is that tax rates could go up. Historically, rates in the 60s/70s/80s were much higher than now (for example the 97.5% top rate). Pensions work best if you can assume you will pay no higher rate of tax in retirement than the current rate (or your employer makes a large contribution that offsets this). Of course, a future government could remove all the tax breaks for ISAs, but even a hint of that is likely to have money flowing out. Pension money is trapped until the saver is 55 or even older. The 25% PCLS could be removed, and it seems likely that a labour or libdem influenced government wants to end the 40/45% tax relief.
My personal feeling is that if you are in your 50s or older, pensions are _probably_ a good way to save, but it is wise to hedge the bet with ISA saving as well. Under that age (and especially if you are in your 20s), I’m not so sure – you might have 40 or 50 or so years of governments meddling to contend with before you can touch your money.
Julian, you’re quite right and being subject to a higher tax regime when you come to claim your pension would be a big blow.
But tax rates can also come down and indeed the large increases in the Personal Allowance over the last few years have made pensions more attractive.
I wouldn’t criticise anyone for diversifying their options but, for the sake of some balance in the debate, I feel bound to point out that things don’t always get worse, even though I’ll be the one who looks naive when everything goes to hell in a handbasket 😉
One thing to bear in mind is that if you dismantle too many of the advantages of pensions then people will stop funding them and that’s a bad outcome for the government and indeed all of us. Poverty-stricken pensioners falling back on the welfare state because they didn’t trust the system is not what anyone wants.
You have to show some leg if you’re going to coax people into focusing on a vague, far-off notion such as retirement, especially if it means losing control of your capital for a while. Forgoing jam today for jam decades from now is not a natural thing to do, you need incentives, so I dispute the scenarios which envision this, that and the other pension benefit being taken away.
The hybrid solution is essential for anyone who’s earning little or nothing but can find more to salt away than the £3600 gross annual pension contribution. Just shifting savings gradually from taxable accounts into an ISA helps maximise their value.
For anyone whose earnings were never high and who started pension saving when contributions were limited to 20% (or less) of earnings, ISAs formed a vital bonus to what would otherwise have been a very tiny pension pot – and that, further depleted by Equitable Life’s shenanigans.
Making assumptions in youth about being able to continue working until late middle age is dangerously silly. Real life has a way of turning the tables unexpectedly so, even now that pension contributions have been raised to equal earnings, it’s worthwhile putting some of the spare cash into an ISA rather than a SIPP.
I think the negativity towards personal pensions is due to their history. In the early days, before stakeholders were available, personal pensions were a complete rip off. Charges were seriously large and completely obliterated any tax advantages, even for higher rate tax payers. Personal pensions were heavily sold due to the large commission on them. I think this is where some of the extremely negative views about pensions originated and is completely understandable if you bought one, or know people who did. To add insult to injury, Gordon Brown then did his infamous “pension tax raid”, abolishing ACT and the refundable dividend tax credit. If you were not already anti-pension, then that tipped the balance for many people.
The introduction of stakeholder pensions in 2001 was a major step forward though and this is when I acquired a pension (L&G stakeholder based on their tracker funds). It dealt with the rip-off pension industry by capping the annual charge at 1%. You were still obliged to buy an annuity, but that was not such a big deal as annuity rates seemed quite reasonable. The amounts that could be contributed were quite small, something like 20-25% of salary I seem to remember, but this rose with age.
The next major step was A-Day in 2006. This started the abolition of compulsory annuity purchase (it was not George Osbourne!). It also greatly simplified many of the rules and introduced a massive increase in the amount that could be contributed – 100% of salary, capped at £225k. I was earning quite a lot at the time and this enabled me to catch up on previous years and put a decent amount into a SIPP over the following 5 years. I think that many of those who got burnt in the earlier personal pension era remained naysayers as they were still deeply resentful of the industry and distrusted politicians.
The A-day changes have been watered down a bit, with the annual allowance coming down to only £40k, the reduction in the lifetime allowance to £1.25m and the earliest date that a pension can be drawn increased from age 50 to 55. All additional ammunition for the naysayers. I suspect that future changes will see the abolition of higher rate tax relief. I am surprised it has not gone already. George Osbourne’s latest proposals are very welcome as far as I am concerned and I am pleased I took the risk and contributed to a SIPP, for now at least.
On the whole the personal pension rules have improved greatly since the introduction of the stakeholder, but if I was starting now, I am still not sure that I would want to take the risk of going all-in pension. A mix of pensions and ISAs strikes me as prudent, perhaps upping the pension contribution to 100% in middle age when the end date seems within sight and reasonable estimates of tax savings, etc. can be made. It might even by worthwhile cashing in ISAs towards the end if that is the only source of available funds.
One other advantage of SIPPs – no 15% dividend withholding tax on directly held US listed shares/ETFs. Only supported by some SIPP providers – ask SIPP provider before you invest if this is of interest.
Excellent round up of the benefits of both!
Presumably there is nothing stopping you recycling the 25% tax free lump sum into an (N)ISA(s), thereby managing to actually never pay any tax on the earnings of that particular lump of money?
(I think it was ermine said he is doing just that?)
Thanks, Firestarter. You’re quite right, 25% tax free into ISAs is an old classic and even more attractive under the NISA rules. There are a few more tax efficiency ideas here: http://monevator.com/reduce-tax-in-retirement/
Having a tax relief on the money going into SIPP does not increase any compounding interest benefit, because both of these operations are multiplication which is commutative. So moving from ISA into SIPP at a later point is absolutely fine, within allowances of course.
Really good article and posts! – thanks…
this has helped me think about the ‘post retirement’ situation a lot more than I had before.
Although I had dabbled in spreadsheets and shares I have only really got serious about my financial future in the last 6 years…I’m 45 now and saving for retirement just seems so much more tangible and urgent than it did in my 30’s. I often say to my wife (to try to make it real , as she does not give a stuff about financial planning but is very risk adverse …really…) that if we don’t save … a lot …. our weekly treat will be the trip to the co-op to buy a pound of lard….
In the 00’s there was a especially active thread on Mfool about ISA vs. pension… at that time the consensus was that ISA won because it was inherently more flexible and (the sting) that the savings in an ISA could be re-cycled directly into a pension to achieve the +40% return from tax relief in the few years leading up to retirement…. sound maths at the time, but as the government has significantly ‘fiddled’ since the early 00’s this consensus has now been torpedo’d by contribution limits.
I believe that I just have to take a chance with the forward view of the regulatory framework.. if tax treatment changes I hope I can adapt, and to use a hybrid strategy that:
1. Leaves only a rainy day amount of free cash in a bank account
2. Enough in ISA’s to act as ‘top up’ funds for the post retirement at 55 to state pension age at 67
3. As much cash as is humanly possible stashed into SIPP’s and company cash purchase schemed between now and 55
I personally believe that by the time I’m 67 there won’t be any form of state pension that is available if you have a reasonable amount of cash saved, if I’m wrong, it will be a bonus, if I’m right the state pension will be a means tested safety net only and all those years of contributions will be null and void for the greater good.
Looking back, I wish I had been more knowledgeable (the internet was not available for me until ~1996 and even then had marginal content) and made a plan with some real goals…..I now have a 5yr old son and I have contributed into a SIPP for him over the last few years hoping to provide him with a cushion for his future… I hope that with the right strategy and finding great information such as from this site, that he may be in apposition by the time he starts his working career to not even have to worry about contributing to a pension…. just learning to manage what his old dad set up for him when he was chewing rusks..
Paul S
@ Paul – Thanks for sharing! I think the advantage a late-starter has is the zeal (powered by impending doom perhaps) to achieve a lot in a small amount of time. I’m probably on a faster trajectory now because I didn’t start until my mid-30s. Though like you am spreading the gospel among the younger generation so hopefully they enjoy a bit more compound interest than we did.
I think your article ought to include a mention of the antirecycling rules introduced in the Finance Bill of 2006 just in case anyone thinking about recycling their lump sums.
Yep, that’s mentioned in the last line of the 25% tax free lump sum section. Basically, don’t do it.
MOVING MONEY INTO ISA IN RETIREMENT.
Is this the most tax efficient way of moving money from the SIPP into ISA and then into living expense account when in retirement? Note the SIPP is closed to further input to preserve threshold.
Each year crystallise enough of the SIPP into 25% tax free sum to feed ISA contribution limit(£11800). Top up state and defined benefit pension from ISA dividend income or sale of stock.
The reasoning behind this is to reduce income tax as pension income is taxable but ISA income is not. This method may not be as tax efficient if IHT is involved as ISA is part of estate but SIPP is not. So should the ISA be run down and not deplete uncrystallised SIPP? Then, only when ISA is empty, start taking SIPP tax free , and then when all is crystallised start drawdown.
Re SIPP versus ISA: I agree with some of the comments above, that if you are a higher rate tax payer at present and (like the vast majority of higher rate payers) will not be paying higher tax in retirement then a SIPP seems like a no brainer.
One way to look at it would be from the perspective of the LOSS-AVERSE. That is, how much would the market have to fall before you had lost money (in the examples that follow I am keeping things simple i,e., ignoring inflation, dividends etc).
For example, if you have put 10K into a SIPP then it has cost you 6K. Only if the market falls by 30% would you have lost money. That is, if the value of your investment fell to £7050 then, if you took that money as pension, you get back your original 6K after paying 15% tax (not 20% tax as you have 25% tax free). Of course if someone is loss-averse then they wouldn’t have all the 10K in equities in any case. If they had 50% in gilts then you can assume that portion is safe. The equity market can fall by 60% (!!) before you start to lose your initial investment (and in both scenarios if there is a big drop you can hopefully wait a year or two for it to recover). In contrast, with an ISA, if there is ANY drop in the market you have lost money.
In other words the SIPP gives the loss-averse the opportunity to invest and hopefully see growth with very little anxious hand-wringing?
@mraccumulator I’m 24 and new to investing and your site has been extremely helpful in helping me get started. I’ve recently opened a stocks and shares isa and have been thinking of starting a sipp, but I’m aware that only one can be tax free. Would it make sense to have both or am I better off just sticking to what I have now?
Hi Sam, they both contain some element of tax shielding. You’ll already have paid income tax on contributions to your ISA but it will then grow without further clawbacks from the taxman. A SIPP contribution will attract tax relief and grow without interference but you’ll be liable for income tax on it when you finally drawdown. A SIPP is the superior vehicle if you intend to retire at a relatively conventional time of life. But at your age you might value being able to access funds for big-ticket items like house purchases?
When you put money into a SIPP doesn’t the provider credit you with the 20% tax whilst you get the higher rate back through your tax return refund? So that is tax free cash that you don’t actually have to invest? (Though of course in that case you would not have the 6k grossed up to a 10k pot only 7.5k)
Hi, in both cases it is credited to you as cash and needs investing. You still get to decide where the money goes. At least that’s my experience.
Thanks for the update. Very comprehensive 🙂
I think the IHT implications are something that are easily overlooked.
The suspicious part of me will invest in both ISA and pension vehicles, a paranoid diversification if you will. 🙂 The fear of retirement age being raised to 65+ is too strong!
Also, I hope to retire before 55 so need something in an ISA to ‘bridge the gap’. But like you mention in the article, the temptation to take money out will always be there.
I think that the pension vehicle wins hands down from a purely financial point of view post ‘retirement age’ but the ISA for flexibility.
Mr Z
As someone who maxes out both ISA and SIPP but already has more than £262500 in a SIPP I am skeptical of the utility of adding to it. As a limited company owner/contractor making 200k/year I can pay myself additional monies at 28% net tax (20% CT then 10% remainder through ER). With the 25% TFLS The net benefit is a 18% relief but at the risk of negative pension changes between now and when I die which could be 50 years. My situation isn’t as uncommon as you may think. For me the key question is what premium I place on locking my money up for decades and it’s probably just about 15%. So pretty much any change to pension legislation on the downside would see me not contributing any further.
@TT — Thanks for sharing your comments. 🙂 However I must say I am not a huge fan of the all-pervasive use of undeclared initials that we see in the personal finance community. For the benefit of other readers, CT=corporation tax I believe, and TFLS = tax free lump sum. I have no idea what ER is, but I may be being slow.
Lock-ups and restrictions have always been the downside of pensions, but I’d say things have got dramatically better in the past few years. Of course that may have just set the stage for a reversal!
Very high earners are likely to need to get more creative in the years ahead anyway, with even the Conservatives talking about limiting relief further for the highest rate taxpayers.
ER=Early Retirement, surely?
But obviously not in this context. Sorry.
And to actually make a more relevant comment…
I’m a higher rate taxpayer but I intend to retire in my early 40s so I’m trying to strike a balance between SIPP, ISA contributions and mortgage repayments. I’ve been doing what I can to get funds into my SIPP before the reliefs are cut; when/if they go, I’ll probably redirect more funds away from the SIPP and towards the mortgage repayments (I’m already maxing out the ISA). While it would sting, I’d much rather lose the 25% tax-free lump sum than the higher rate tax relief, as with a bit of ISA-derived income I expect my annual SIPP drawdown to be no more than the tax free personal allowance anyway. I guess that’s not on the cards though; I suspect axing the TFLS would be political suicide, whereas the higher rate relief can be portrayed as taking tax breaks away from the higher earners who aren’t currently “paying their share” (TM)(R). But I probably should try to be more optimistic, and at the very least not worry about it, since it’s outside my circle of control…
ER == Entrepreneurs Relief. Sorry!
And great article.
Is the basic rate of income tax going to stay as low as 20% indefinitely? If it goes back up then pensions become less attractive. I see that the Conservatives plan to reduce the annual allowance for the seriously well-paid: that suggests to me that they don’t plan to reduce the tax relief from 45% (or 40% either).
The public finances still have the mark of Brown on them; none of the parties give any sense that they will seriously reduce the size of the state. So taxes will go up.
@TT — Cheers for the clarification. However I don’t understand how Entrepreneur’s Relief is factoring in here? As I understand it that’s a special rate of capital gains tax that’s payable on the disposal of shares in a company you own. It’s not an income tax rate (and also it’s 10% not 8%?)
Are you doing something exotic like capitalizing excess cash every year to expand the shareholder equity and then selling down a percentage of the enlarged capital? (I’m fishing here, I have no idea if that’s possible/workable). Genuinely curious!
@TI: Many if not most high earners or providers of in demand services, such as doctors, IT consultants, sportspersons, financial analysts, and architects provide their services through limited companies that they have incorporated and are major shareholders of. They do this for a variety of reasons beyond tax efficiency such as smoothing cash flow through sporadic or volatile demand, building a name or reputation, buyer requirements, family business construction, and hopes of expanding. It’s not just high earners, mom and pop newsagents, grocers, nurses, hairdressers do the same.
Tax efficiency means that once salary and dividends up to the higher rate of tax have been withdrawn and pension paid to the limit of the day there are retained funds. This is good news as the following years emploment may be fallow. But if times are good you may build up a 6 or 7 figure war chest. Your company will have paid 20% CT on these earnings. One can extract further dividends at an effective 25% tax.
A time comes when you wish to retire or semi retire, or go back to Working For The Man, or enter into a different field or sector. You may voluntary liquidate the company, or dispose of it in other ways, and be subject to a 10% ER tax on the sum, which is effectively a capital gain. So £100 retained is subject to 20% CT becoming £80 and then 10% ER becoming £72.
This may seem off topic but the point is that pulling a lever makes the financial machine behave differently yet politicians almost always bank straight linear savings without acknowledging people will move to other tax efficient strategies if one is rendered less efficient through legislation. In this case of pensions, my view is any change will hit middle income earners (40-100k) more than higher earners as they are less well positioned to structure tax efficient withdrawal. It could also push many of those who are high earners from a PAYE perspective into limited company ownership. That’s no bad thing.
@TT — Got you, thanks for the long explanation. I run a Limited Company myself so am familiar with the basics of tax planning and so forth, but I hadn’t ever considered retaining sufficient funds in place to really consider Entrepreneur’s Relief (which I have had a run-in with in a previous incarnation 🙂 ) as a viable option. I’m still curious as to how HMRC would treat this, especially in the absence of a sale, but no doubt you’ve done your research. Personally I might consider it perhaps if cash was paying any reasonable rate of return, but I think in the current climate I’d rather get the cash out and take the tax hit and get it invested. Investing is my thing though…
I do wonder whether Entrepreneur’s Relief is any less liable to future fiddling than pension reliefs and so forth?
Fully agree about the endless short-sighted fiddling with the tax system. I’d realize a six-figure capital gain this year if they’d kept capital gains tax at 10% (and perhaps something closer if taper relief remained in place) but I’m gently defusing instead faced with 28%!
Cheers again for your input.
Excellent reminder to keep both ISAs and SIPPs in the pension pot. But I am increasingly worried about the changes to private pension access age proposed in small print, amidst all the other eye-catching ‘pension freedom’ tunes. I am inclined to progressively reduce my SIPP contributions and rake up the ISA bit to maximum possible levels.
http://www.telegraph.co.uk/finance/personalfinance/special-reports/11537512/Cash-in-your-pension-at-55-You-may-have-to-wait-till-70.html
Entrepreneur’s Relief is only available for “Trading Companies”. Keep more cash in your ltd co than HMRC thinks is reasonable (typically if more than 20% of assets are non-trading assets) and they will say you are not a trading company – bang goes ER and in comes higher rate corporation tax (probably not relevant any more though now that the main CT rate has dropped to 20%).
Whilst I agree overwhelmingly that on a purely financial basis pensions make the most sense, the recently published ‘freedoms’ are misleading for anyone aged below 50. This article published this week sets out some pretty frightening scenarios in terms of changes to the permitted age to access retirement funds.
http://www.telegraph.co.uk/finance/personalfinance/special-reports/11537512/Cash-in-your-pension-at-55-You-may-have-to-wait-till-70.html
Many people like myself in their 30s and 40s would favour pensions over ISAs for the reasons given in your excellent article if we knew 100% that we could access the funds at 55 (or even 58 is it will be for me based on current legislation). However if this age threshold starts creeping towards mid-high 60s or (god-forbid) 70, as I believe it is very likely to then this is yet another game changer. Personally, and very frustratingly, the only approach I feel comfortable taking is to use a balance of SIPP and ISA, on the most tax-efficient basis between myself and my wife.
Lately I have found a couple of good benefits to pensions and in particular stakeholder pensions. I have found that my income is a little more infrequent than it was last year but as I have been in the scheme for longer than 10 years my charges are now capped at 1% and there is no commitment to pay in each month so I can stop paying when I am unable with no extra costs. My pension may be a little more simple and limited compared to a SIPP but for someone in my situation a stakeholder has proven beneficial. I did a little analysis on this as Aegon wanted me to transfer to a SIPP but the charges looked they could mount up and with intermittent income higher charges do not appeal to me so I would rather trade off lower charges with fewer funds to choose from. I would also say if one can afford it a mix of ISA and pension is the best solution but for someone serious about their retirement a pension is still the only way to go in my opinion. No matter how desperate I get I can not dip into my pension so I know in the future there will be some pension for me and that is what counts at a time when many are not even paying into a pension.
“Accessing your money whenever you damn well please is the inarguable advantage that ISAs have over SIPPs and other forms of pension scheme.”
If you like: I was always very bad with money, easily tempted by the best a consumer society had to offer. Over the years, my attempts at saving in ISAs were always eventually over-ruled by the ‘need’ (as I convinced myself at the time) to spend, usually at the BMW shop. The big, big, advantage for me of pensions, is that you cannot – could not – access your money. They save you from your own folly.
“pension income recycling” – Is this still correct (@6/2015)?
“If you’re still working then you can put the lower of your annual earnings or £10,000 into your new pension. ”
I work parttime (~8kpa), and have in previous years contributed much of it to a stakeholder pension (and had the contribution grossed up). Shortly I will, additionally, be in receipt of a civil service pension (~9kpa). I have been told by the pension provider that the 9kpa is ‘not pensionable’. So if I reduce the parttime work, as I had intended, I cannot substitute the CS pension money to contribute to the SH and get it grossed up. Hence recycling doesn’t actually work.. or does someone know better?
I have an Interest only mortgage of about £250,000 and am currently paying capital such that it should be clear when I plan to retire in about 9 years. (I’m 52). I’m thinking of stopping the capital repayments and instead investing in ISA’s for my wife and myself and use this to pay the capital in larger lumps or in total later. This would seem sensible whilst mortgage rates are so low (1.3%)?
With recent changes to pensions I’m also thinking that it would be more tax efficient (I’m paying 40% tax) to invest the money from mortgage capital repayments into a SIPP saving the 40%. The intention would then be to use draw downs from the SIPP to pay the mortgage capital over say 5 years.
Assuming the rules don’t change and I can still draw down say £50,000 a year in 9 years time, get 25% of this tax free and then pay income tax (of about 30%) on pension and drawdown from SIPP (£25,000 + £37,500 = £62,500). I think this probably works out more beneficial than an ISA. However my brain hurts! Aside from assuming that I’ll still be able to draw down the money in 9 years am I missing something obvious?
Hi @Monevator
Thanks for the blog, I have been reading it since the start of this year and its been really useful. I’m 26 and started to get into investing at the end of last year.
I have a question which I hope people can help with. I am trying to advise my dad with what to put his money into. He is 56 and has a good public service pension which he has been receiving for the past 4 years. He tops this up with some freelance work which provides a decent annual income, perhaps working 3 days a week for approximately 9 months of the year.
Should I be recommending him to save into an ISA or a SIPP. I noticed you mention about beyond 75, but wasn’t entirely sure what this was in reference to and if it may impact him?
Any help would be much appreciated!
Hi Chris,
Scroll down to the tax-at-a-glance table here to see what happens post-age 75. https://www.pensionwise.gov.uk/when-you-die
Ultimately, the remainder of the pot is taxed at harsher rates if you die after age 75 than before. I don’t think this should be the main concern at this stage.
Your Dad’s age means he could pay into a SIPP tomorrow, get tax relief and then cash it in the day after and get at least 25% tax free. So even the flexibility benefits of an ISA aren’t really an advantage here.
The site I linked to above is very good on the basics and you can also get help here: http://www.pensionsadvisoryservice.org.uk/
Who are the best current Sipp providers?
Here you go: http://monevator.com/compare-uk-cheapest-online-brokers/
I wonder if there are any providers that pay out tax free?
ie hargreaves will deduct your tax before giving you your money.
Wonder if there are any that could pay out gross?
Take out one years money then earn interest on it….
Anyone?
Pension providers have to pay out via a PAYE system, so what you’re after is verboten.
As a result, if you take out one year’s money in month one, you’ll be taxed on it assuming the X you’ve taken will mean you’ll be earning 12X during the tax year, meaning you could be hit by 40%/60%/45% tax.
Can anyone help me decide whether to take some assets out of a SIPP and put them into an ISA, please? There are many parameters to consider but here are my specific ones. I am retired taking a liveable income from state and defined benefit pension to give enough for flexible drawdown >£20k. I have no need yet to drawdown from Sipp as it is there for care later in life . As it is likely care needs will take me over the 40% tax threshold when drawing from SIPP would it be prudent to start taking out from SIPP now to make my total income up to the 40% tax band? SIPP drawdown is taxable (except the 25% chunk) so designing the most tax efficient method is critical. The ISA fund can then be used to top up income for care effectively tax free over the 40% band .
Yes, pensions are a tax play, so taking as much as you can but avoiding the higher tax bands is worthwhile. I plan to hit my SIPP as hard as I can before state pension kicks in to make best use of personal allowance and 20% band. You probably want to use UFPLS rather than drawdown, and so take chunks with 25% tax free and 75% taxed, as this avoids having a lot of unwrapped money to find a home for. Build up the ISAs and use these ISA funds last.
About 5 years ago I was advised by my pensions adviser to use up the ISA first as this is part of my estate, whereas the SIPP is not as it is in a trust fund, unless it is crystallised (that is I have taken the 25% or started drawdown). Since I would be subject to IHT if I do not reduce my ISA holding, it is a consideration. The above ruling on IHT still applies, I think. Pension law has changed since that advice, both before and after aged 75, so should I have a different strategy before and after aged 75?
One big change since then is that ISAs can transfer to spouse on death while still in the “wrapper”, which is very handy. I must admit that I haven’t considered using a SIPP as part of my estate planning as we have no DB pensions worth mentioning (2 yr of LGPS for my wife), which means we’ll need to crystalise pretty much immediately. I guess it all depends on how you prioritise between your own needs versus IHT considerations.
I think the change is not just restricted to spouse, but to any named beneficiary, so could go to children. But is such a transfer of uncrystallised funds still exempt from IHT and outside the estate?
Even if you do not have enough pension to live on at the moment then whether you use up the ISA first or raid your SIPP still needs to be decided. You also need to think about whether to take all the 25% first or just take small chunks and exhaust each chunk by taking income or a lump sum. Has anyone a spreadsheet which can help? Clearly costs of doing all this will have a bearing since funds will have to be sold and bought and providers will no doubt charge a fee!
I’m pretty sure the “Additional Permitted Subscription” for ISAs is only for spouse or civil partner, but maybe it changed again!
The transfer of ISA’s at death using APS is only to spouse/cp so is not subject to IHT anyway, but is then still subject to IHT on death of spouse, although any unsused IHT on first deceased’s death can be claimed.
My question about IHT is about transfer of pension under the new rules and not about ISA transfer. From HL:
Prior to April 2015 lump sums were subject to a 55% tax charge if paid from drawdown or after age 75. Pensions are held in trust outside your estate and so continue to be free of inheritance tax (IHT) in most cases. Pension contributions made while in ill health or within two years of death may still be liable to IHT. Tax charges may also apply if you exceed the lifetime allowance and die before age 75.
Post April 2015 if you die before age 75 the transfer is free of income tax, but with death after age 75 your beneficiary’s lump sum or SIPP income is taxed as income at their marginal band.
So great news, although the 75 threshold is still there, but it might all change in 2020!
So with IHT at 40% above £325000 threshold (which I will be way over unless I give half a home away and that is difficult), is it still worth keeping assets wrapped in the SIPP?
This is slightly (ok, quite!) off topic, though I’ve now procrastinated over this for a few weeks (erm, months), and so am here in the hope that someone may be able to offer their opinion/thoughts. I’m seriously struggling to make a comparison between the option to make additional contributions to my defined benefit (DB) scheme – for guaranteed extra payments in retirement, or whether to continue contributing the extra to my SIPP (passive, index tracking, Vanguard LifeStrategy). I already contribute to the scheme, so do have some security/certainty at retirement – this is for extra contributions to make up for the fact that I’ve been later than I should have starting to save towards a pension.
Using approximate figures, the option is to pay £200 gross (so £160 net based on being a basic rate tax payer) per month for the next 31.5 years to receive a guaranteed lump sum of £6,200 and annual payments of £2,100. The monthly payment into the scheme would be fixed (and assumed to last until I’m 65), and the lump sum and annuity payments index linked. There’s also 50% ongoing benefit for my wife once I leave this earth, thrown in for good measure.
However, plugging the figures into the HL calculator, assuming a (realistic?) 5% annual growth, 1% annual charge, 50% spouse pension, and 3% annual increase to annuity payment (to match the inflation linking), *could* give me a £6,610 lump sum payment, and annual income of £2,440 (or approx 16% more).
Whilst this seems to make the SIPP more attractive, the HL calculator does assume payments for its calculations will increase 2.5% per annum (which seems to cost me approx £27,000 more over the 30 years). At this point (what with trying to take inflation into account, and trying to look 30 years in the future) I’m starting to get confused!
Other pros for the SIPP option are:
I don’t *have* to convert it to an annuity
I can access it approx 10 years earlier, if early retirement becomes an option (wheras my DB pension will apply actuarial reductions/penalties if retiring earlier – which ultimately I hope to be able to do).
Though I keep wondering if it’s mad not to be locking in the security of these guaranteed figures that the DB offers.
Does anyone have any opinions/other ways to consider looking at this, or care to point out anything I may have missed?
Jonny.
Pensions have to be chosen based on your personal circumstances. Any vehicle you choose to provide your pension has risks, both external from legislation and internal from the investment growth and demands on the scheme. Most would choose the DB scheme but that can be affected greatly by the associated company and trustee performance. Companies die and the DB scheme has no earners to pay the pension so trustees can find it difficult to meet pensioners expectations. SIPPs can suffer from all manner of failures such as your meddling, high fees and poor performance of the investments. Can you do better than the professionals running the DB scheme? Personally, and I mean personally, I retired with a good DBP but also had a good SIPP fund. Put your eggs in both baskets. But my success was because of planning my pension goals when I was 50, reviewing every couple of years, prompt action as legislation and personal circumstances changed and doing a lot of research with friends.
Hi TA et al,
OK, I haven’t read all 96 comments above!, so my answer may be there…so apologies if this is the case, but here goes. You state 55 or above as the accessible age for private pensions (SIPP’s?), yet my company pension states the same age as the state pension (67 for me), so:-
1. Does this mean that I could move additional tax-free salary contributions into a private pension/SIPP rather than my company one (DC part) to get at these contributions/money 12 years earlier?
2. Would I be allowed 25% of this SIPP tax-free (I assume the other 75% would be taxed at 20% if I wasn’t working?) AND then get 25% of my company pension tax-free when I reach 67?
3. Is there a minimum time/contributions value per year for SIPP’s…otherwise what would stop people from stashing lots of tax-free contributions say 2-3 years (at 52-53) before early retirement?
I must have this completely wrong as it sound ‘too good to be true’…if not, any good site/information that I can look at so that I can get this started!
Thanks for your comments.
@Teddy
1. As far as I am aware, you can access any DC pension at 55, even a company one. You may need to transfer it elsewhere as some providers are pants. Some providers also get sniffy about you “crystalizing” (official term) your pension and then continuing to contribute.
You can run another pension alongside (and for historical reasons I do) but make sure you can the max from your employer into your company one, which usually requires some contributions from you.
2. You can take 25% tax free as a PCLS (Pension Commencement Lump Sum) from a DC pension. You don’t have to take the other 75% at the same time and can go into drawdown while drawing zero every year.
3. There is no minimum period for a SIPP or Personal Pension though some providers charge higher fees if you exit in one to two years. You also need to watch the “recycling” rules that try and prevent you taking a 25% lump sum and then using this to fund more pension contributions.
Lots of info around. Perhaps key to understand is that DC pensions, Money Purchase, Personal Pension and SIPPs all work *very* much the same way as do AVCs (but I don’t know much about these). People talk about SIPPs as being something magical, and some do let you hold assets that you can’t hold elsewhere, but the vast majority are just personal pensions in all but name.
Thanks Gadgetmind for you thorough reply, it has really helped me to ‘put the jigsaw pieces together’. Just a few additional questions if I may:-
1. In regard to point 1 above, I am getting a bit confused. My pension has both a DB section and a DC section:-
(https://www.uss.co.uk/~/media/document-libraries/uss/member/member-guides/post-april-2016/a-guide-to-investing-in-the-uss-investment-builder.pdf?la=en)
Basically it is a DB pension (with a 3x final salary lump sum) and a threshold of £55k where if you go over that % of your salary, it then goes into a DC scheme; this is not the case for me BUT although I am under the £55k I can also choose to put additional contributions into the DC part (and so benefit from its tax-free status), SO
a) Does this mean that I could access the DC part from 55 if I want to, but have to wait until 67 for the DB part if I don’t want to incur a penalty (4% p each year before 67) …even if I retire early and the pension becomes a deferred pension?
b) From what I can see, the DC part is the same as an ‘external’ SIPP using a vehicle such as a FTSE100 type index fund, so would I be better just putting contributions in to this rather than setting up another ‘external’ one?…How do the charges compare (see p18) to say what people are currently using?
2) If I can take the DC part at 55, then will I be able to take 25% of the DC funds (0f my whole pension sum at that time) tax-free AND then take a 25% tax-free sum of the DB/lump-sum payment that I have accrued when I have access to that part at 67?
Hopefully I have explained this all clearly?
I would value others thoughts on the pension scheme as well…My view is that although it is not as good as it was (it recently changed by adding the £55k threshold and so limiting the DB on the FS and moving some of that ‘risk’ to those above this threshold by putting these funds into DC), it is still half-decent being partly DB.
Others thoughts/comments?
@Teddy
You’re heading towards asking us to give you personal financial advice which we’re not authorised to do. So please don’t treat these comments as if they are such advice.
From what you’ve said you’re getting DB benefits on your full salary (as you earn less than £55k) but you can put extra contributions (no employer’s matching?) into a DC scheme.
As I said in the other thread there are quite complex rules about working out what the total contribution is to a live DB scheme and comparing it to the Annual Allowance (£40k, but you can bring forward unused allowances from the past three years). The main valuation tripwire is if you get a good pay rise as the value of your DB scheme will rise significantly and that rise is deemed a contribution to the scheme. If this is / is likely to be the case I’d ask your employer’s pension scheme for advice. Given what you’ve said it’s unlikely to be a problem unless you get a serious pay rise and are also making significant contributions to the DC scheme / SIPP.
If the DC part of the scheme is totally separate from the DB part (I’ve not read your linked document) then I see no reason why you should not use a SIPP instead for any of these extra contributions. But equally, why bother? That’s slightly rhetorical. If the DC element of the scheme is totally separate then you may wish to derisk and have greater flexibility by opening a standalone SIPP. Charges might be lower.
Finally when looking at pensions, it might be an idea to see what pension contribution you would have to make to fully extinguish your higher-rate tax liability (if you’re a higher-rate taxpayer). Pensions can still be good for basic rate taxpayers – both for the 25% tax free element and especially if you’re going to retire early and use the pension (post-55, but before your state and DB pensions kick in at 67) as your main source of income as you will have the personal allowance to use up. If you have no other income then you can draw about £15k a year tax free from a DC pension / SIPP. But things are even better if you’re getting 40% tax relief up-front…
If the DB and DC schemes are totally separate and if the scheme rules (you may wish to check) are “normal” then, yes, you can take your DB lump sum at 67 (or earlier with a reduction) and take 25% tax free from your DC scheme (at 55 or any time later, or bit by bit over a number of years). Some DB scheme insist you have a lump sum. Some allow you to commute between lump sum and annuity, and some have no lump sum at all.
Pensions are an area where general comments (such as mine) are no substitute for really understanding what your actual pension scheme(s) offer. Your DB scheme should send you an annual statement setting out exactly how it all works. If not, I’d certainly ask them.
I’ve had a quick look at a few documents but I think you really need to ask someone else. They allow “Flexible Retirement” but the document I found only discusses accessing the DB part even though it’s mentioned in the “Builder” document. However, this document also discussed accessing before retirement by “transferring out” the DC pension.
BTW, using DC/AVC to retire early without having to access your DB pension is very common.
As for this USS pension being any good, those without any DB/FS pension would sell a kidney (and might have to!) to get anything like as good a deal.
You’re also getting a good deal on fees on the DC part.
“Your employer has made a commitment to subsidise the majority of the fund investment management charges for the foreseeable future, so you won’t have these charges deducted from your contributions.”
Wow!
There are the switching fees on page 18, that seem designed to stop you messing around too much, but I think you know the “house message” on messing around. 🙂
If you can contribute to this DC pension by salary sacrifice (so avoiding NI), and have fees mostly paid for you, and access/transfer at age 55(ish), you’d need a *very* good reason to run the same kind of SIPP/PP as used by us commoners alongside.
BTW, your comments suggest that you’re on >£55k, and are looking at pension contributions both for early retirement and perhaps tax reduction. If so, then you may also want to consider Venture Capital Trusts, but these are high risk relatively speaking. The are complex, but the VCT regulations are a doddle to understand compared to the twisty passages of pensions.
Once again thanks Both,
I think you have both confirmed that what I am thinking of is feasible IF my pension provider allows it…to understand this I will need to speak to them…thanks for your thoughts though.
As for being a 40% tax payer…that would be nice but there is no chance there!… hence the need to make ‘every little count’ and why I (eventually) now realize how important it is and why I shouldn’t have ignored it for so long!
A few other considerations… Platform charges for SIPPs tend to be a little higher. Withdrawals from a SIPP in retirement are slightly more restrictive and/or costly. There’s a lot to be said for being prevented from withdrawing money from a pension until you retire for behavioural reasons. Pensions are generally better protected by dual taxations treaties and are more readily available to US persons resident in the U.K. There’s no such thing as a defined benefit ISA, (nor ISAs with index-linking or spousal payouts). Pensions can be inherited free of IHT and not just to your spouse. Some things can be held in a SIPP that can’t in an ISA (especially full SIPPs).
A financial plan for your life and decumulation.
Many people go through life without any financial planning by reacting to the situation day by day or year by year. People’s attitudes to saving, investment and spending differ widely.
I have a plan that has been honed over 50 years as my limited financial knowledge developed. I was sold what was really a worthless life insurance at university. I saved a little in a building society. I was enticed into setting up an additional voluntary contribution plan in my 20’s. I obtained a mortgage when I married. I accumulated various work pensions. I started investing in stocks and shares prior to the Dot Com boom using an ISA. I then started building a Self Invested Personal Pension.
Most years we sat down and did a yearly budget mainly to decide on what major spends we could afford.
Some longer term plan was required, so when I was 50 I tried to predict future life events that might affect my financial situation. This can be complex and imprecise but by simplifying and making best guesses or by considering a range of values you can accommodate likely scenarios. Of course, everyone will have a different set of parameters based on employment prospects, marital status, children and other family demands or opportunities.
I made my best guess as to when my parents, I and my wife would die. When my child would be self-sufficient and set up home, and when I might retire. Then I looked at likely costs such as care for my parents and the movement of assets such as homes. This created a basic timeline of events and income and spending requirements. This planning helped finance a home for my child and later a sheltered home for my parents.
Changes in pension legislation and the opportunity to take early retirement prompted much research and discussion resulting in a complex spreadsheet. This was used to decide whether to take early retirement which I did, but then was offered a job so I carried on working. More research and spreadsheet planning meant I fed into more AVC and SIPP pension schemes.
Approaching state retirement age I contacted the adviser who sold me the AVC 40 years previously. He alerted me to freezing my lifetime allowance at £1.8 but also suggested moving my AVC into the SIPP. My investment portfolio had been moulded over the many years moving from company shares, to unit trusts through to index funds. Much research was done on how to balance my investments. This too is very personal and I decided to have a fund equally balanced between gold, bonds and equities with the equities equally divided between UK and non-UK equities. The home was considered part of the investment portfolio. Over the 10 years this balance has been in place I have been pleased with it as it coped well with booms and busts and currency fluctuations.
So now to the crunch! I have to start ‘decumulating’. Once again this is personal. In my case my parents and wife have died and my child has their home, all events approximately following the plan set out many years ago. My biggest problem is provisioning for care in my old age so I set about defining my yearly spend for the next 30 years. Based on current cost and taxes I estimated by yearly net income requirement being £36k between 70-75, £41k between 75-80, £46k between 80-85, £51k between 85-90 and £71k from 90 -100.
Of course, I cannot predict changes to tax rules or inflation or investment rates so I assumed current tax and a difference of 5% between investment performance and inflation.
The first objective is not to run out of income and the second is to minimize tax and the third to maximize my inheritance, so various plans were considered. The main driver is that a large income is required later on in life as this moves the income from the pensions into the higher income rate band. This assumes that there will be no future tax relief on care home costs. One way of mitigating this is to use the income from the ISA which is tax free. One way of maximizing this tax free income is to always take income from the SIPP up to the higher tax rate and put the tax free component into the ISA for later drawdown.
To minimize inheritance tax you should reduce assets in your estate such as ISA and home below the allowance which may be up to £650k.
The first model plan draws down the ISA first and then draws down the SIPP without touching the equity locked up in the home. Under this plan in my case the ISA runs out when I am 82 and the SIPP when I am 100.
The second model plan draws down the SIPP up to higher tax band limit with the 25% tax free going into ISA. Under this plan in my case I start depleting the ISA fund at age 75 when I need income above the higher rate tax band. The ISA fund runs out when I am 91 when all income is taken from SIPP. The SIPP would run out at 101.
There are many variations to these two basic plans that may maximize the residual inheritance but the idea of holding on to the ISA is contrary to most IHT planning I have seen.
Other plans involving releasing the equity in the home to fund an ISA may also improve the Income Tax bill in later life and will minimize IHT so are worth considering. Has anyone any comment as I have not yet put these into my spreadsheet model?
The post should include information about possible changes to the ‘private pension age’:
http://www.telegraph.co.uk/finance/personalfinance/special-reports/11537512/Cash-in-your-pension-at-55-You-may-have-to-wait-till-70.html
Hi all
Firstly, I want to say I’ve found this site absolutely superb and have really learned a lot.
My query is around pensions – whilst I have built up a good sized ISA pot (£130k Vanguard 80LS on Interactive Investor) over the last 5 years, I have neglected my pension(s).
I already have two work pension schemes
1) £280k with Fidelity from former employer. Invested in BLACKROCK GLOBAL 50/50 INDEX FUND, AMC 0.13%. Can’t add to.
2) £32k with Scottish Widows through current employer, invested in default Pens Portfolio Two, AMC 0.7% . As I understand it, this is a basket of mostly index funds that comes with a lifestyling option to change investment/risk over time
At age 43, I’ve now realised I ought to be paying more into my pension and in particular taking advantage of tax relief where I can since I’m in higher rate band. My question is should I
a) Use my employer salary sacrifice scheme and try to max out 40k pension allowance ? This way I get NIC + tax relief at source. (Employer contribution will not change, there is no matching they pay flat 1%).
b) Start a SIPP and invest into Vanguard funds again, possibly 60LS ? Understand here I would have to claim relief via my tax return and there is no benefit to NICs
I lean towards (a) as it seems simpler all round, but Scottish Widows seems to have higher charges and is a little opaque (also website is *really* dreadful). I really like the Vanguard funds due to low cost and transparency.
Any suggestion/inputs welcome!
Regards
Hi Zarquon, it’s a question of what you value more: the extra 10% or the lower costs and transparency. When I did the maths on my personal circumstances, I discovered that my favoured SIPP option would struggle to beat the extra 10% over the next couple of decades, so I took the salary sacrifice option.
Great article, this.
I would also add that the real-life advantages of an ISA are somewhat nebulous and arbitrary vs even a standard taxable account; your investments will need to perform to take advantage of the tax shield – that is to say that being able to realise £11k in annual capital gains is not that easy to achieve without many years of contributions and compounding, while the advantages of of the pension are guaranteed and instant (expect you just can’t actually draw on them until retirement). So in my view, ISA is either a VERY long term play where you plan to run your pot over >£1m, or a supplementary bridging fund until you can access your pension. Ironically they’re probably at their comparative worst when compared as a like-for-like alternative for a pension for the vast majority of people.
We have ISAs (been building them since they were PEPs in 1989ish) and also unwrapped income that is being dribbled into ISAs as subscriptions allow.
Even a £250k unwrapped pot can throw off enough dividends and income to make tax complicated, and the dividend allowance dropping makes things even harder. And no, accumulation funds *don’t* solve this problem, so use ISAs!
I think Lifetime ISAs add a new dimension to this debate and would warrant a major update to this article. I’ve been working on an Excel model on accumulation and deaccumulation of DB pension/DC pension/ISA/LISA/state pension and would like to see someone else’s take on it.
@ Asdf – I was thinking exactly the same thing 🙂 Article updated. And I agree, LISAs look good.
Thanks for the update. You may have seen my March 2017 post in this thread about my planning for retirement which I am now well into. It illustrates the need to plan for your income needs during retirement where increasing age normally requires a lot more income for support. You then need to see the best tax plan to meet those income needs. Regularly moving some funds from your SIPP (using UFPLS) to your ISA during retirement may be the best plan.
Good & timely refresh. Possibly needs a bit more will it/won’t it around the LTA which while a nice problem to have is in danger of skewing behaviours.
My own planning was somewhat naive. When I hit the enlightened moment of “you are good to pay for everything you want/need in day to day life” and paying higher rate tax it seemed a no brainer to ramp up pension contributions. Then annual allowances started to bite and rather than immediately start stuffing ISAs with any surplus, figured I was already adequately exposed re equities in the pension and cash ISAs weren’t worth the paltry interest rates (yes I said naive because I’d totally ignored the value of getting funds in the wrapper that I could later allocate as I wished). Now as it has turned out with the (short term?) abolition of the LTA, I’m possibly in a position to do better than I was expecting out of the DC/SIPP pension but that’s probably a piece of good luck after the bad luck of falling into the generation too poor/young to benefit from LTA protections and unlimited annual allowances.
I’m definitely not sunk re ISAs but the use it or lose it is something I wish I had clocked earlier in life given it will be somewhat irritating to pay CGT on subsequent gains in a GIA which will only be about keeping unwrapped savings protected from inflation.
The real message is enlightenment is best the earlier you have it. No one can stop rules being tampered with (which I think should be broadly unacceptable when it comes to such long term life things as pensions) but you can spread your bets with the best of what is available. I think the real value of ISAs is in minimising the amount of unwrapped cash/funds you have at retirement, meaning your TFLS doesn’t send you into orbit, or as a bridge to pension commencement. The more ISA you have to draw the greater your SIPP/DC works as IHT planning too (for the time being).
“LISAs look good.”
Sadly, some of us were too old to open LISAs when they came out!
Thanks for the update.
@ Weenie – yes, me too! Still, at least we have our accumulated years of wisdom to fall back on, eh? 😉
@ BBbobbins – I see the tax-strategy diversification element as the best advice anyone can hope to have about future imponderables like the Revenge of the LTA. Hedge your bets, hedge your bets…
I do think that the constant tampering with pensions is a great example of how politicians put short-term expediency and headlines ahead of creating a stable environment which might provide their citizens with a degree of faith in the system or confidence in the future.
In my case, I ignored ISAs too (and like Weenie, too wizened for LISA) and poured everything into SIPPs – thanks to TI’s insight that I wasn’t the Peter Pan of finance, I would grow old, and the bulk of my FI funds would be used post the minimum retirement age.
But, I was late to the game, had a salary sacrifice SIPP, and a savings rate of over 70%. My ISA and LISA would have formed part of my strategy if I was younger / on a gradual path and could hope to FIRE in the current era of higher interest rates, taxes, and cost of living.
@ Decumulation – how does your plan look now 5 years on? Equity release and annuities are on my agenda for further investigation as retirement-boosting strategies.
I’ve decided to forgo balance and go full pelt on my pension in 2023/24, leaving my ISA unloved.
Ultimately the tax incentives are too rich to ignore, with a £60K contribution costing me “only” ~£28K in take-home pay. Even factoring in 20% tax in retirement that’s still a +70% win!
I remember being suprised by the SIPP vs ISA calculation before. Great updated outline of the benefits of all options. Thanks @TA
Interesting insights from @BBBobins about TFLS sending your unwrapped investments into orbit. I hadnt thought of that before.
FWIW my simple approach has been any payrise I get, I increase the % into pension so I dont pay any 40% tax and keep ISA payments going in regularly the same as before (not maxed out). I am not close to the LTA and unlikely to get there on my current career path.
The recent rise in NMPA age to 57 has made me pause though. The NMPA rising quickly (in retirment planning terms) from 50 to 55 to 57 has made me think about this closely though, especially as government are getting their fingers burnt by people retiring in their 50s. Fearmongering and autoenrolling people into saving into pensions for retirement, then pushing those goalposts out seems perverse.
Now trying to “entice” people back to work in their 50s is a thing, whats to stop government moving NMPA further in line with state pension age and adding another 11 years on slowly over time?
Great article.
SIPP vs ISA vs partner’s SIPP has a choice I continue to struggle, because of the LTA (or now, the threat of its comeback.)
Maximizing employers contribution is always a no-brainer no matter what, but beyond that, there’s a point where ISA or partner’s SIPP might prove better.
To help me with this I ended up writing a retirement tax planner/simulator — https://lategenxer-rtp.streamlit.app/ — which takes LTA in consideration (now, optionally.)
But ultimately the best choice is dependent upon future governments’ policy and investment performance. A tax-strategy diversification, as recommended, makes a lot of sense. (One is still faced with the choice of how much to put on each pot though..!)
> SIPPs are a hedge against poor pension performance. In other words, if your investments are hit by a terrible sequence of returns then more of your withdrawals will be taxed at a lower tax bracket.
This is indeed a great point. Even more so if LTA is reintroduced under the previous rules, as it effectively softens the blow of underperformance below the LTA by 25%.
I’d also add that if there’s no mortgage to pay off, taking the PCLS early and feeding it into ISAs is a great way to reduce tax burden later on.
Excellent update, thanks. Isnt another advantage of SIPP v ISA’s that you can minimise the NI you pay? ie pension contributions made via salary sacrific are free of NI deductions and you dont pay NI on pension withdrawls(even if taken early) With ISA’s, the amount you contribute has already had NI deducted.
yeah both are great tools. when looking I’ve generally found platforms fees for s+s isa lower than sipps, I’ll be using a combo of both.
@ Vano #109
> I would also add that the real-life advantages of an ISA are somewhat nebulous and arbitrary vs even a standard taxable account; your investments will need to perform to take advantage of the tax shield – that is to say that being able to realise £11k in annual capital gains is not that easy to achieve without many years of contributions and compounding, while the advantages of of the pension are guaranteed and instant (expect you just can’t actually draw on them until retirement).
Hmm, not so fast. I started in 2009, so my ISA is over a shorter period of time that most folk will save over a lifetime. I have a little bit smaller GIA, which is a PITA and I have just used this year’s CGT allowance completely, and see trouble ahead with the dropping CGT allowance in future. Compared with that the larger ISA is trouble-free. It should also be noted that it costs you dealing fees and the turn to make use of your CGT allowance, if you bounce the holding between similar assets provided by different companies, say VWRL and some L&G World index fund
Now if you were making the point that a SIPP is easy living compared with the aggravation of a GIA, sure.. But I agree with Gadgetmind #110 that as a GIA creeps up in value you need to watch your back
….actually (having now read through your article properly…) I think you mention this already (of course)
Gah, I’ve just realised the date on Vano#109’s comment. Sorry for the dead thread resurrection!
I believe that should be £72.25 (not £72.50) for a basic rate taxed SIPP vs £68 for an ISA leading to a 6.25% difference (a quarter of the 25% uplift you get from the basic rate tax relief).
I wouldn’t call that a slim margin as 6.25% of your portfolio is probably a years extra work or so for most people.
Though you can in your final working years focus on pension contributions and live off the ISA to get that bonus later.
@ SLG – As an optimistic counterpoint to your thought about ever-rising pension ages… The gov has just missed an opportunity to link the minimum pension age to state pensions: https://adviser.royallondon.com/technical-central/pensions/benefit-options/increase-in-normal-minimum-pension-age-in-2028/
Reportedly, they’re also having second thoughts about bringing forward the State Pension age (I’m in the firing line for this one, so it’s personal).
You’re right of course: they could make such changes in the future. But they have the political cover to raise the pension age now and aren’t. That’s a good sign in my view. Given the UK’s aging demographics I think the political price for negative changes to our pension system is quite high.
That’s not to say things won’t get worse. But every year I’ve read about the abolition of, for example, 40% tax relief. What’s happened? Not only have they not scrapped it but they’ve made it more powerful by scrapping the LTA and upping the annual allowance by 50%. It’s not what I would have spent the money on but, inexplicably, I’m not the Chancellor. (My application must have got lost in the post.)
@ LateGenXer – your app looks awesome. Haven’t had a chance to play with it yet but looking forward to it.
@ John K – Ach, typo. Great spot. Thank you.
@TA I like to take an optimistic approach but dont on this one. I do promise this is my last comment on this post with cynical speculation though 😉
A link to state pension age now and that frog would be straight back out of the pan hopping about the kitchen high on political suicide.
I cant believe even the British could stomach “sorry, you need to work 13 years longer (18 years extra total) to access your private pension”, all at once.
2 years at a time, 5 years into the future, aligned for “fairness and equality”, affecting too few with any passionate interest i.e. not retiring in the next 5 years.
Looks like boiling that frog slowly to see what they can get away with to me…..
Hi. Thanks for writing a complicated matter up. Wonder if anyone might be able can offer some advice. As a teacher, I get a decent employer pension and often wonder if I should put as much as possible into this before anything else and by what means as there’s a couple of ways I think to add additional contributions into the scheme. Am a basic rate payer of tax and don’t plan on ever needing the money. Just hopefully something I can give the kids and shield from the tax man as best as possible. I use a S&S LISA and will continue to pay in the full contributions until 50. Any advice appreciated so I can look into it further. Ta
@ Mike Strutter – my significant other is also a teacher. The defined benefit teacher pension is gold standard assuming you don’t want to retire before its minimum retirement age (67-years old in the latest iteration). Build a defined contribution pension if you want to retire earlier.
Mrs Accumulator also has the option to pay additional contributions on a defined benefit or defined contribution basis. The DB pension will come too late so she has a SIPP. However, we opted not to pay AVCs into the DC pension offered to her as a teacher. It was just a standard workplace pension run by an insurance company. Quite restrictive with high-cost funds. It would have been worth it if salary sacrifice but wasn’t. Hope that helps.
@Mike Strutter, despite @TA above I would make two points. The “normal retirement age” on teachers pensions can vary between 60 and 65 (I don’t think 67 yet but not sure) depending on what scheme you are on, which depends on when you started your career. So there is no clear advice here, it is situation dependent.
Second, and again depending on the scheme, it could be worth buying AVCs since the standard retirement lump sum is less than the 25% tax free entitlement (as a teacher you are unlikely to breach the new cash limit). But rather than putting extra cash in high-cost funds, you might consider saving elsewhere and buying AVCs in a cash fund over the last couple of years of your career, getting the tax benefit without any investment risks or costs.
(Caveat: I am not a teacher, but had one of the public sector careers which historically had an equivalent pension scheme; it maybe that recent schemes have shown more divergence).
@ Jonathan B – the last iteration of the teachers pension scheme moved the retirement goalposts to 67. Previous versions set the retirement age at 60 and 65 as you say.
Interesting @TA. I wonder how many teachers make it to 60, let alone 67 before retiring these days? (I am a secondary school governor, and don’t see many hanging on there).
@TA – this post revision (and lots of reflection last night and “what if” scenario planning) inspired me to change the pension aspect of my retirement planning. We are getting flexi cash ISA set up to max out this years allowance (using emergency funds for a week or so – next yr will be trickier).
FWIW, I have just over 9 years in a DB (with AVC) as well as DCs either side. My DB rules changed and tied it to state pension age (currently 68 for me). I liked the AVC as I could take it all as a TFLS to maximise the DB income. The landscape has shifted somewhat since then.
A company called AVCWise are selling easy-to-set-up salary sacrifice AVC plans to public sector DB scheme members. They’re being heavily promoted by employers, who are presumably splitting their NI saving with them (none to employees). Uniquely the LGPS allows full AVC amount as tax free lump sum if taken at same time as main scheme benefits, and not more than 25% of total pension value.
@LateGenXer thanks for sharing your great app – I’ve taken on boardall the caveats and limitations – but what it definitely allows is a bit of playing with scenarios on different assumptions. (Which I sincerely hope doesnt blow your free usage limit on streamlit). What I’ve been doing is taking the proposed income from one scenario and then setting that as the target income with different parameters – expected growth rates, contributions etc and seeing how it plays out.
What interests me is the huge variability of the tax payments and the sources of income used at different times – it’s not something I’d have expected to see and I need to get the datahead in our household to explain to me what’s going on. (Im a dabbler – they are much more systematic). It would also be interesting to see how LTA vs none and also growth rates affects total tax paid – presumably HMRC does model this stuff.
In a slightly less helpful manner, it also illustrates clearly what another year of input to SIPPs and ISAs when we are both at our peak earnings in our careers to date and a years delay in decumulation does to the income outlook/risk – so perhaps I’m now less close to pressing the button than I thought………
Incidentally a couple of experts I know have described quantum computing as ideal for this type of complex multivariable optimisation problem.
Great work though – and thanks for sharing
@abouttopressthebutton, I’m glad to hear you found the tool useful.
Quite often, the reason results vary wildly on slightly different inputs is that the optimal solutions are not unique (e.g, when withdrawing from a pot vs another yields exactly the same outcome) and the solution presented is picked among the space of optimal solutions almost randomly, as the optimizer chases rounding errors. I don’t have a good solution for this yet.
BTW, the tool does not attempt to minimize the tax bill — that figure is purely for informational purposes — but rather maximize income / net wealth. One might think it’s all the same, but I realized it’s actually not: there are situations it’s worth to pay *more* total tax, if it allows one to pocket more money in the end. That’s often the case with pensions: if the pot grows faster than inflation, one might end up paying more tax in retirement (even after adjusting for inflation) than not deferring income and paying it straightaway. But it’s worth deferring income through a pension because one gets to keep more of that growth to ourselves. In other words, private pensions allow one to pocket the government’s opportunity cost of not receiving that tax straight away and investing it. So don’t focus on what the taxman takes, but on what lands on your pocket! 🙂
You’re spot on about the impact of the retirement date. I too did some experiments of retiring early, and it quickly implies a haircut on retirement income, due to the double punch of fewer savings, and less time for them to compound. But the accumulation->decumulation transition doesn’t need to be a hard transition: my current thinking is to not stop working completely, but rather take it slowly, for example, work part time, do some consultancy, or teach the skills I got to the younger folk before it’s all forgotten. I haven’t bothered modelling, but my gut feeling is that it should lead to fewer regrets, financial or other kind.
I know this article focuses on saving for retirement, but please don’t underestimate the value of being able to access an ISA at any time. When I split with my ex, I could only afford to buy her half of our house by dipping into my ISA. In other words, I’d have lost my home if I’d been saving exclusively in pensions. That blows any potential tax advantages clean out of the water. (Except perhaps for employer matching – that really is free money, so maybe worth the risk of homelessness!)
On the flip side, if you don’t trust yourself to keep your grubby mitts off your funds for more mundane purposes, then a pension or LISA might be the better choice regardless of the maths.
I’m in the slightly unusual situation of having stopped work in my mid 40s, with hardly any SIPP (13k in total) because I started late in life with a ‘proper’ job and pension, but a large (for me) sum in my ISA of high 6-figures after doing well with resource investing. I paid off the mortgage and stopped working this year and as I wanted to annoy the governor of the BoE and would like my house to inflate in value..; I’m now trying to work out if it makes sense in the long-term to take money each year from the tax-free gains in my S+S ISA pot and contribute it to my SIPP to get the 25% tax relief uplift. Am I missing something, seems almost a bit too easy? I’ve around £30k spare annual allowance before the end of this tax year as it being my last year of employment.
I suppose it depends on what tax I might expect to pay on the pension drawdown, but if it’s only going to be a relatively small sum then it appears I shouldn’t expect to pay much tax on it after the TFLS is accounted for.
There is brief mention here of the fact that ISAs – and LISAs – are taken into account for means tests. This is really important for people who are not the very poorest, but would struggle to pay for their income, a carer, and all the paraphenalia required for long-term disability.
You say “Personally, if I was many years from retirement, I’d favour the accessibility of ISAs as a handy backstop. Just in case life took an unpleasant turn.”. But if your unpleasant turn were to involve permanent disability before retirement age, you might lose a lot of savings paying for someone to help you get dressed in the morning. So the flexibility cuts both ways.
With LISAs of course it is even worse: it counts towards the means test, but you can’t access it without losing more than you put in. This has always seemed absurd to me. It’s quite right that the generous uplift to LISA contributions should come with major restrictions on withdrawal. But in that case, they should be treated like pensions for means testing.
@petejh
> I’m now trying to work out if it makes sense in the long-term to take money each year from the tax-free gains in my S+S ISA pot and contribute it to my SIPP to get the 25% tax relief uplift.
You have piqued my interest with this comment.
@All – does anyone do this? are there any pitfalls? ( apart from not being able to access you funds post 55/57?)
Does the 20% uplift on money in outweigh the tax on the way out?, I suppose that’s the conundrum.
@Haphazard
The main premise of my retirement planning was to provision for care in my old age. This may not be at the forefront of most people’s planning as they may think (or hope) they will live life to the full then drop dead. Life expectancy is variable and mainly unpredictable, but if both your parents live to their late 90 s then the probability is you will too. If you own your own house when you retire then you will already be above the means test threshold. If you are reading this it is highly likely your savings will also be above the threshold. So the driver to provisioning for care is tax efficiency as taking an income from the SIPP to pay for care will put you well into the higher tax bracket. Thus a substantial ISA pot is probably the most efficient way to get this income. Perhaps a £40000 per year income above the state pension would give you a comfortable life in early retirement. But care, then care home costs, would require a boost of another £40000 for possibly 10 years requiring an ISA pot of £400000. Deciding when this pot would be needed and how long it would need to last is a very personal decision.
@ petejh and FI-Firefighter – it’s a definite win if you’ll be in a lower tax bracket vs the tax relief when you withdraw. Even if you get 20% tax relief on the contribution and are taxed 20% on the withdrawal – you’re still up on the deal thanks to the 25% tax-free cash. Could there be complexity for you, FI-FF, if the LTA is restored? Or are you close to the 25% tax-free cash ceiling?
@ Mike Strutter @TA @Jonathan B- My wife is a teacher and I have been looking into her pension for a while to work out her options etc.
I am ex fire Service and I understood my pension very well, I thought the Teachers pension would be similar (all Public Sector etc.) but that was a mistake.
It’s not, it’s actually very different in the way its set up and how amounts are calculated and then applied, for the final salary and the CARE systems.
The most significant thing I have learnt recently is the last 10 year rule and how important it is.
If you are not aware of this or know how to take action you could lose £1000’s from your pension.
If year on year your salary is increasing (experience scale and promotions etc) and you maintain this until you retire you are probably ok.
But if you are like my wife who was full time with management responsibility in the past but has gradually moved to 3 days a week and shoved their management responsibility back to them! (really not worth the pittance of pay for the huge amount of grief that comes with it) it does matter, as her higher earning years are ticking away and once past 10 years they are lost for good.
It is a very good pension, even the new CARE system IMHO, but you have to be aware of its vagaries and how they affect the individual situation.
@ petejh, FI-Firefighter, and TA – AFAICT, moving ISAs into pensions only saves income tax if one withdraws less income per than the Personal Allowance, from the pot that remains after the 25% TFC. This can make a lot of sense for a low/no income partner, especially if he/she has little/no state pension, as it effectively boosts income up to PA by 25%.
For pension income drawdown in the 20% income tax band, it’s a wash AFAICT: one gets the 20% tax added in then 20% taken out. The TFC really doesn’t give advantage here, because ISAs are already 100% tax free, not just 25%. This might still be advantageous: the benefits would be not in income tax, but perhaps in IHT, or to protect from capital gains if one plans to retire to a foreign tax jurisdiction that would tax ISA capital gains.
Once one withdraws from pension at 40% (or hits LTA), then it seems disadvantageous.
From what you describe @petejh, this might be advantageous. I’d recommend you to go to https://www.gov.uk/check-state-pension , see what you’ll get, then estimate how big of a SIPP pot would you need to: 1) widthdraw the full Personal Allowance between 55/57 years old and state pension age 2) withdraw whatever is the difference between the state pension and the Personal Allowance from state pension age onwards.
It’s a tricky calculation but you can go to https://lategenxer-rtp.streamlit.app/ , adjust to your circumstances, set ISAs at 0, then try different values of SIPP so that you get roughly 12570 every single year, or a bit above (to stay on the safe side, in case investments underperform.) There are a lot of assumptions made there though — please read them.
Also be careful with timing — don’t leave at the last minute to increase SIPP contributions or you might run afoul of the TFC recycling rules. Again, I’m not tax/financial adviser, but my reading is that HMRC likes to see regular payments into SIPP. See https://techzone.abrdn.com/public/pensions/tech-guide-recycle-tax-free-cash
Thanks @TA
>Could there be complexity for you, FI-FF, if the LTA is restored? Or are you close to the 25% tax-free cash ceiling?
I am considering this for my wife who is well below the LTA and AA.
She will likely stop teaching this year aged 50, possibly find another job 2 days a week doing something completely different or if needs must some supply Teaching.
Considering taking her pension at 55 (if looks like it stacks up ok ATM)
She has ISA funds, so just considering if its beneficial to move some to a SIPP or not?
@Decumulator, provisioning fully for care for most people I’d argue is madness. Simply ensuring that one is working for far more of the good years to ensure “comfort” at the end seems to be a poor trade given that no amount of money can reverse dementia or make chronic pain vanish. Plus the state can’t yet evict those who can’t pay into a “poor pit”. I’d see it as something to bear in mind if the rest of retirement strategy holds up, though I’d like the state to be far more compassionate about stuff like assisted dying too. Death isn’t the worst thing.
FI Firefighter: This may not work in your wife’s case but when my school department head brother decided to reduce his resposibilities he was able to start taking his teacher pension and carry on working. He ended up drawing his pension while a second one began to build. Now retired, he is drawing two pensions that add up to a lot more than would have been the case.
FI Firefighter: Sorry just seen wife’s age in your follow up message At under 55 she probably cannot pull off my brother’s wheeze.
One unfortunate downside of LISAs is that the limited range of providers makes it harder to minimise costs.
I’m currently paying .16% on my stocks and shares ISA with investengine, .39% on my SIPP with Vanguard, and .7% on my LISA with AJBell.
Probably I could slightly cut all of those figures, but not by much, and the LISA would still have the highest costs.
I’m sure the LISA still comes out ahead with the immediate 25% uplift, but over the long term not by as much as generally assumed, and maybe not enough to compensate for the lack of flexibility.
@ Dan – that’s a good point. I haven’t done the sums on it but are you investing in a single ETF only via regular investing at AJ Bell? That should limit the costs.
@ LateGenXer – I don’t think you’re right about recycling ISA into SIPP being an income tax wash at the basic rate (so long as 25% tax-free cash is available). Here’s an example:
Withdraw £80 from your ISA and contribute to SIPP.
Your £80 is grossed up to £100 in the SIPP after basic rate tax relief.
Withdraw 25% tax-free cash from your SIPP.
You get £25 tax-free plus the remaining £75 taxed at 20%.
£75 x 0.2 = £15 due in income tax.
Total withdrawn from SIPP = £100 – £15 income tax = £85
You’ve turned your £80 ISA withdrawal into an £85 SIPP withdrawal.
I was almost spot on 40 when the LISA was introduced. Doesn’t really make sense that you can contribute until you’re 50 but only if you started one before you’re 40, so someone one year younger than me gets 11 more years of bonuses. I guess I will just continue to spread my investments between my SIPP and my ISA, they’ll almost certainly be plenty of political tinkering down the road.
@TA — you’re right! I stand corrected. Thanks for the clear example.
Thanks LateGenXer and TA, very useful info and links. I’ll be topping up the SIPP from the ISA, as I could comfortably keep annual SIPP drawdown below the personal allowance, using my ISA pot for the remainder. So basically what appears to be a near zero-risk 6.25% uplift on the gains made in my ISA, between now and age 57 (recycling rules noted, will have to research more about this).
Obviously a complex area, where mitigation of tax changes unfortunately seems to be the order of the day. If im reading things correctly, for married couples it would appear to make sense to have moved any unused PCLS out of your SIPP and into ISA’s before age 75, since from 75 onwards on death all SIPP beneficiaries become liable to marginal tax on the balance of the SIPP, including spouses, however on death an ISA balance can be left to a Spouse free of all Tax. Am I missing something ?
@Accumulator
ISA to SIPP
Your £80 is grossed up to £100 in the SIPP after basic rate tax relief.
Where does the £20 come from as you have not paid tax on the input?
If shares are involved dealing costs will also reduce any tax gain.
@ Decumulator – you paid tax on that income when it went into your ISA. Even so, that’s not how the system works. A 0% taxpayer can put money into a SIPP and gain 20% tax relief.
Shares will incur dealing costs unless you’re at a zero commission broker. You can also buy and sell funds or ETFs for £0.
@The accumulator
ISA to SIPP withdraw from SIPP and then back to SIPP and each time I gain 5%?
@Martin T wrote:
“Uniquely the LGPS allows full AVC amount as tax free lump sum if taken at same time as main scheme benefits, and not more than 25% of total pension value.”
This is very attractive for LGPS (Local Government Pension Scheme) members. Because if it comes out of your main DB pension the 25% lump sum is poor value and not worth taking.
Does anyone know if it’s possible to transfer a SIPP into an AVC?
Google doesn’t seem to have the answer to this.
My employer’s AVC is all horrible, high cost, actively managed funds. So I would like to be able to save into a low cost SIPP during my working years, then transfer the whole lot into the AVC just before I retire, to benefit from 100% tax relief on the full amount.
@decumulator, abrdn seems to think so, per https://techzone.abrdn.com/public/pensions/tech-guide-recycle-tax-free-cash#anchor_6 , section “Pension income recycling”, subject to the limitations explained there.
@Decumulator. Thanks for your respnonse! I’ve never had to worry about higher tax brackets and the like, I’m not in that income group. There was an excellent series on this website on paying for care in old age, that’s also helpful. But there are people who need care at a younger age, due to disability – if your working life is cut short in this way, it’s quite hard to afford your ongoing costs, let a lone contribute to a pension!
Pension income, Capital Gains, rental income and investment income is not classed as earnings and cannot be included in the definition of relevant UK earnings.
So transferring ISA to SIPP and getting the tax allowance only works if you are in employment and not if you are retired. It does not reduce any tax liability from income from a pension or rental income.
@ Decumulator – once you’re withdrawing from a SIPP to contribute to a SIPP then you fall under the baleful gaze of the pension income recycling rules – as LateGenXer notes. The rules are quite complex and limit the gain to be had from that particular caper. I need to write a Monevator guide to it at some point but there’s lots of info out there.
@ Haphazard – triple comment! Not seen one of those before 🙂
Great article. Ace great comments as always.
Any views on additional contributions to NHS pension AVCs vs SIPP? Now that AA has increased. Aware of tax free lump sum cap.
No employers contributions or sal sacrifice to consider for me. Self employed
Thanks in advance
@ TA >You’ve turned your £80 ISA withdrawal into an £85 SIPP withdrawal.
I’m sorry I still don’t quite get it.
My wife has funds in an ISA, so all withdrawals will be tax free.
>you paid tax on that income when it went into your ISA. Even so, that’s not how the system works. A 0% taxpayer can put money into a SIPP and gain 20% tax relief.
Yes, but if the money is coming from an ISA the 20% has been paid on the way in.
As @Decumulator said, Where does the £20 come from as you have not paid tax on the input?
It was paid initially when on the funds into the ISA, but where does/ or how does the 20% get added back in a SIPP?
I am sorry if I an being really dense, just can’t quite see how it works or if it a benefit for my wife.
@FI-FireFighter, I recommend reading https://www.moneyhelper.org.uk/en/pensions-and-retirement/tax-and-pensions/tax-relief-and-your-pension , particularly the following sections:
– “How does pension tax relief work?” > “Relief at source”
– “Tax relief if you don’t pay tax” > “Your position if your pension uses the relief at source method”
Good luck.
@FI-FireFighter
The way I understand it, forget about the tax already paid on the ISA – that’s already happened.
Imagine you have an ISA with £80 in it, and a SIPP with £0 in it.
Scenario A:
You want to spend £80, so withdraw straight from your ISA. Now you have an ISA with £0 and a SIPP with £0 🙁
Scenario B:
You withdraw the £80 from your ISA, and pay it into your SIPP (£80 * 1.25 = £100 in SIPP).
Now, when you want to spend the £80, you have to withdraw if from the SIPP.
£80 from the SIPP can be split as 25% tax free, 75% taxable (at presumable 20% basic rate tax) so:
0.25 * £80 = £20 tax free
0.75 * £80 = £60 taxable
Tax owed is 20% of £60, so:
0.20 * £60 = £12
Going back to the SIPP we have:
£100 (original balance) – £20 (tax free to us) – £60 (taxable to us) – £12 (tax to HMRC) so:
£100 – £20 – £60 – £12 = £8
Now you get to spend the £80, and end up with an ISA with £0 and a SIPP with £8 left 🙂
@FI-FireFighter
Ignore whether why tax has been paid in it before or not.
When you put the money into the SIPP it’s topped up by 25% out of government coffers.
@LateGenXer – thank you, great info.
@ Jonny – Ah, its getting clearer now, thank you for the great example.
Thanks @ Jonny and @ LateGenXer.
@FI-FireFighter – imagine it like a cashpoint. Take £80 out of your ISA. Now put it in your SIPP.
Thanks to tax-relief automatically applied to that £80 your SIPP balance is £100.
Withdraw your £100 SIPP balance from your SIPP account.
£25 is tax-free. £75 is taxed at 20% so you receive £60.
£25 + £60 = £85
So £80 taken out of your ISA becomes £85 when it’s transferred to and then withdrawn from your SIPP.
The £5 bonus ultimately comes from the 25% tax-free cash.
The extra £20 you and Decumulator are referring to is basic rate tax relief that you receive on money contributed to a SIPP.
Nobody is checking the provenance of the original £8o. Tax relief is automatically applied to it – grossing it up to £100 in the SIPP or other DC pension type.
Thanks @TA I get it now, thanks for being patient.
@ Pawl – if there are no special benefits to your AVC scheme then I think it comes down to the scheme’s costs and investment choices.
@TA
Thank you….I think I need to investigate further but I’m not sure the two options are that special…..
I’m mainly wanting to ensure the inheritance side of things…I think SIPP easier for that
Yes, when I came to compared Mrs TA’s teacher AVC scheme vs SIPP I found the AVC scheme to be bog-standard insurance company run operation that wasn’t anything to write home about.
@TA @Pawl @Aureus @MartinT
Maybe there is some confusion in this discussion with differences between pension schemes, and AVC vs APC?
When I looked into this for my wife (LGPS), one is a DC “bog-standard insurance company run operation that wasn’t anything to write home about”, whereas the other was additional payments to earn more DB (which is what we did). Although I haven’t seen it separately presented on her annual statement it must be accounted for separately as there are differences in benefits from the main DB pension e.g. associated with spouse pension/if she dies before NRA I think.
Hello
Do you know of any SIPP providers who are prepared to accept contributions from people who are 75+ years of age. There would be no enhancement from HMRC so on the face of it it makes little sense to pay taxed income into a fund which will be taxed when income is taken by the contributor. However, if the contributor does not need an income from the SIPP it could enable additional contributions, up to the level of income less than the £60k/pa limit for 2023/24, which would be exempt from Inheritance Tax.
Hi Alan – my mum is 74 and is with AJ Bell. Have you been refused a SIPP by brokers because of your age?
Sorry if I am being dumb but I don’t understand how you arrived at the figure of the SIPP being 6.25% better than the ISA..
“” Intriguingly, a normal SIPP only just scrapes in ahead of an ISA if you retire at State Pension age.
In this scenario, you pocket £72.25 from a SIPP, and £68 from an ISA, for every £100 you originally contributed to each account. That’s only a 6.25% difference.””
For my scenario, retiring at State Pension age and being a basic rate taxpayer, I also calculated the SIPP to be 6.25 % ‘better’… (ignoring personal allowance because my state pension takes up most of that)
But I calculate it in a simple way as (for example figures) –
£80 in SIPP is boosted by tax relief to £100
On drawing down my £100, 25% is tax free, with 20% tax on the remainder I end up with £85.
Compared to putting £80 in ISA which obviously is drawn as £80.
85/80 = 1.0625.
Incidently I think 6.25% is quite a big difference. I can sell some of my ISA and put it into my SIPP and end up with 6.25% more.
Is there some error in my thinking here?
Sorry, for some reason my phone didn’t seem to be displaying the last few messages (or me being a fool) : it is in fact pretty well explained already.
I would like to know people’s thoughts on taking money from your LISA when allowed to at 60 years old and putting it into SIPP. This would give you an additional 25% / 40% tax relief on the LISA money.
@Chris its a valid plan. It’s just that you need relevant earnings to get tax relief, and most folk here are likely looking at retiring before age 60, or if still working at age 60 are likely already maxing their pensions.
What you have remember though is if you have £80 in your ISA, presumably that £80 came out of your monthly work wages, so to have earned that £80 you would have had to have earned £100, and then paid £20 tax on it.
Hi all.
Theres some fastinating conversations going on here to help everyone benefit later in life.
One question if I may.
Im looking at retiring in late April 2027 when Im 60. I currently have a DB LGPS pension, a DC pension and S&S ISA accounts.
I would like to put about 10K (possibly more) from the S&S ISA into the DC pension to benefit from the Govt topup but Im bricking it about getting caught up in the recycling rules and significantly increased contributions. Currently Im putting in about 4k a year. I understand that if I make the contibutions this tax year (24-25) I may get away with the 5 year rule as the retirement year will be 27-28 and from then on Ill contribute the standard 2880 into the pension.
Thanks 🙂
Great article!
One question occured to me tho thinking about dividing up cashflow between SIPP abnd ISA. Given that HMRC tax relief for pension only comes in the next tax year, how could one access the funds to use allowance for ISA in the same tax year? (given that there is limited cashflow and maximizing SIPP first and then paying into ISA is the goal)