Eight weeks today the Lifetime ISA will launch to help people save towards buying their first home or retirement. In reward for their efforts, some savers could receive a government bonus of up to £32,000. But seeing as more than two thirds of people don’t even know what a Lifetime ISA is (according to pension specialist Aegon), here’s a guide to the new account.
What is it?
The Lifetime ISA – or LISA – is a tax-efficient savings account for people aged 18 to 40 wanting to buy their first home (up to the value of £450,000) or build a retirement nest egg.
How does it work?
Savers and investors can put away up to £4,000 each tax year until they reach the age of 50 in order to earn a 25 per cent annual bonus from the Government. This means those contributing the maximum annual amount will receive a £1,000 bonus every year on top of any interest or investment returns – so an 18-year-old opening the account in April 2017 and paying in £4,000 each year until they turn 50 could earn a £32,000 bonus.
The money can be held in cash or stocks and shares and can be withdrawn in entirety tax-free from 12 months after account opening by those purchasing their first home, or from the age of 60 for retirement savers.
As accounts are limited to one per person rather than one per home purchase, two savers buying their first home together can both earn the Government top-up.
Are there any drawbacks?
Yes. The major downside of the account is if you change your mind about your savings goal and need to withdraw money for a reason other than a home purchase, your retirement or in the event you are diagnosed as terminally ill, you will incur a 25 per cent charge levied on the total amount you have in the account – including any investment returns.
Tom Selby, senior analyst at AJ Bell, warns that over a 20-year period of maximum contributions, this would result in the exit penalty being almost double the Government bonus received.
He also points out: ‘The first year of the LISA will be “all or nothing” when it comes to withdrawals – savers will have to either leave their money invested for the entire period, or take the whole lot out, close the account and start their savings clock again.
‘From April 2018 onwards partial withdrawals will be possible, although investors will have to watch out for any exit penalty they might incur.’
Another big pitfall to avoid is thinking of a Lifetime ISA as an alternative to a workplace pension. Fall into this trap and not only will you forego employer contributions into your pension but you’ll also lose out in two other ways. The first is that you’ll likely end up with a far smaller retirement pot as the amount you can contribute to the ISA is far below what you can put away in a pension. And the second is that if you pay tax at the higher or additional rate, you’ll also miss out on extra tax relief as the ISA only offers a 25 per cent government bonus whereas higher and additional-rate taxpayers get tax relief of 40 and 45 per cent, respectively, on pension contributions.
Home-buyers should also be aware that they will only receive the Government bonus on a purchase made after the account has been opened for 12 months.
Where can I get one?
While Lifetime ISAs won’t suit everyone, the combination of a 25 per cent government top-up as well as interest or investment growth and tax-free withdrawals will appeal to many hard-pressed savers. But so far, only a handful of providers have confirmed they will offer the new accounts from the 6th of April, or soon after. They include the Share Centre, Hargreaves Lansdown and AJ Bell. More companies are expected to follow suit later in the year.
Laura Whitcombe is knowledge and product editor at ThisisMoney.co.uk.