Why Londoners should be wary about the Lifetime Isa
Should you get a Lifetime Isa (Lisa) when they’re launched in April next year? On the face of it, definitely yes. Designed specifically for the under-40s, this new entrant to the growing Isa stable promises a government top-up of £1,000 if you contribute the maximum £4,000 in a tax year, no tax on capital growth or income within the wrapper, and no tax on withdrawals after you turn 60 or if you use the money to buy your first home.
This looks attractive even compared with the generous 40 per cent relief higher rate taxpayers get on their pension contributions. Assuming you expect to pay 40p tax in retirement too, a higher rate taxpayer could be better off contributing into a Lisa than a pension given that you will pay nothing on withdrawals from the former when you reach 60.
Yet for all that it seems to be a straightforwardly good thing, the Lisa has received an unusual amount of criticism. Former pensions minister Steve Webb accused the chancellor of risking “mass confusion”, with young people forced to “work until they drop” if they put their faith in the Lisa. Others consider it to be a stalking horse, the template for how the chancellor would ideally have liked to reform pensions in his Budget if the EU referendum hadn’t got in the way. We can only invest based on the rules as they are understood today, but there are other reasons Londoners in particular should be reticent about the Lisa.
First, while it’s certainly more flexible than a pension, there are strong penalties (a loss of the government contribution and any growth associated with it, plus a 5 per cent charge) if you take money out early. Not quite the extension of freedom and choice it’s made out to be.
Second, for most people planning to buy in London, the Lisa will be next to useless for saving for a deposit. Like the Help to Buy Isa, first-time buyers can only buy a property worth up to £450,000, a ceiling that leaves out many one-bedroom flats in the capital.
Third, the maximum annual contribution of £4,000 (plus £1,000 top-up) is far too low for anyone serious about saving for their future. First-time buyers in the capital, for example, needed an average deposit of £91,409 to purchase a house in 2015, according to the Halifax. And most estimates suggest that you’ll need savings of about £500,000 to achieve an annual retirement income of £25,000 or so. How the chancellor expects people to achieve both by saving just £5,000 a year is unclear.
Finally, the rules as they stand do not allow employer contributions and the government stops paying anything in when you reach 50. This may level the playing field to some extent for the self-employed, but you would be getting a very poor deal indeed if you decided to opt-out of a workplace pension in favour of the partial flexibility of the Lisa.
There’s nothing wrong with this new Isa, and it will serve as a useful complement to any other retirement savings products you might have. But it’s a very long way from being the solution to Britain’s disastrously low savings rates.
This article appears in the March edition of City PM's Money magazine, which will be distributed with the paper on Thursday 31st March.