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16 May 2023
by Tim Brook

Should you add a Lifetime ISA to your benefits package?

Offering a LISA alongside pensions could be the right thing for some of employees, but there are pros and cons to think about

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Free money is not to be sniffed at, especially when it comes from the government.

So, for under-40s looking to save for their first home or put some extra money away for retirement, the £1,000 a year they can get tax free from the government by investing in a Lifetime ISA (LISA) is an attractive proposition.

As Sara Smith, Consumer Product Director at Equiniti Financial Services, says: “LISAs are designed for the big things in life – a first home and a comfortable retirement.

“Couples saving for a first property together can each open a LISA, with which any gains are also free from capital gains and income tax.

“And if you use a LISA to save for retirement by investing £4,000 every year from age 18, you’ll receive £32,000 in government top-ups by the time you are 50.”

How LISAs work

Introduced in 2017, LISAs can be opened by anyone aged between 18 and 40 and offer access to tax-free savings with the added bonus of a 25% government top-up on up to £4,000 a year. This £4,000 counts towards your overall ISA allowance, which is currently £20,000 a year.

Like standard ISAs, LISAs can be used to invest in a range of assets, including investment funds, individual company shares, and cash accounts that pay interest in the same way as traditional savings accounts.

This makes them much more flexible than many pension schemes, especially when offered via a platform that gives the customer control over their investments and provides access to a variety of independently rated investment funds.

However, while there’s no tax to pay when you withdraw your LISA savings, you can only use them for a first home purchase – up to a maximum value of £450,000 – or as a retirement fund you can access from the age of 60.

If you need to withdraw the money for any other reason, you’ll pay a 25% charge that will essentially wipe out the benefit of the government top-ups you’ve received.

Another way to maximise savings

There’s no requirement for employers to offer LISAs alongside their workplace pension schemes.

But providing another way for people to maximise their savings will be appreciated by those keen to future proof their bank balances, not to mention younger employees whose main concern is more likely to be getting on to the housing ladder than investing for later life.

This is particularly true for companies that struggle to offer pension contributions above the minimum level of 3% of an employee’s earnings.

This list of pros and cons can help you decide what is right for your workforce.

Lifetime ISAs vs workplace pensions

The pros

  • Allows 18 to 40-year-olds to claim the government bonus of up to £1,000 a year
  • Helps younger savers to buy a first home – especially if employers allow these people to divert pension contributions above and beyond minimum auto-enrolment levels into a LISA instead
  • Offers access to a wide range of investments
  • Is aimed at employees who may be less engaged with pension saving
  • Can be a great introduction to investing
  • Often involve lower charges than pension schemes

The cons 

  • Could encourage people to divert money from the pension scheme and so miss out on employer contributions
  • Does not offer the same ‘salary sacrifice’ tax breaks as pension savings
  • When used for retirement savings, can only be drawn upon from age 60 (unlike pensions, which can be drawn upon from age 55 – rising to 58 from 2028)
  • Usually less advantageous than a pension for higher-rate taxpayers

LISAs, while not an alternative to pensions, are a great way to put some extra cash aside while benefiting from a generous government bonus scheme.

The fact they can be used to finance a first home purchase also makes them more flexible and more likely to appeal to younger employees as a result.

For those who can afford to, the best approach is to make the most of both workplace pensions and LISAs by ensuring they max out the employer contributions and the government bonuses available. Employers who offer both options as part of a robust financial wellbeing strategy are therefore giving their people the best of both worlds.

As with all employee benefits, however, context and communication are key – from an explanation of the risks involved in investing to educational materials laying out the potential benefits – to ensure each team member makes the right choices for his or her individual circumstances.

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