Pensions and ISAs: the tax-saving power couple
When you’re looking to make the most of your money, the tax advantages of pensions and Individual Savings Accounts (ISAs) should be high on your list. While the features and tax advantages of each are different, they can work together whatever your stage in life.
How do they compare?
There are different types of ISAs available, including Junior ISAs (for those wishing to invest on behalf of a child) and Lifetime ISAs (aimed at those aged 18 to 40 primarily saving for a house deposit. They offer a 25% Government bonus on up to £4,000 each tax year).
The table below shows the features common to both Cash ISAs and Stocks and shares ISAs, and how they compare to pensions.
| ISA | Pension | |
| How much can I put in? | £20,000 each tax year | Up to the level of your earnings capped at £60,000 each tax year* |
| When can I take my money out? | You can normally take your money out whenever you wish | From age 55 (this will rise to 57 from 2028) |
|
Do I get a tax boost when I put money in? |
No | For every £80 you invest, HMRC will add a further £20. If you pay 40%- or 45%-Income Tax you can claim additional sums from HMRC |
|
What can I invest in? |
Cash and/or investment funds and shares | Cash and/or investment funds and shares |
|
Is there tax on the money held while its invested? |
There is no UK Income Tax or Capital Gains Tax on any growth within the ISA | There is no UK Income Tax or Capital Gains Tax on any growth within the pension |
|
Do I pay tax when I take the money out? |
No – it’s tax free |
You can normally take 25% tax free**. Anything over this amount is subject to Income Tax |
*High earners with incomes over £200,000 may have a lower allowance.
**Capped at £268,275 unless you have registered for protection. Speak to your NFU Mutual Financial Adviser for more information.
How can they work together?
ISAs protect the money held in them from UK Income Tax and Capital Gains Tax, allowing you to retain more of any potential growth. In most cases you can access the money in your ISA at any time, which gives flexibility should you need to access a lump sum. They can also provide a tax-efficient income stream at any stage of life.
Pensions are primarily designed to give you an independent source of income at any time from age 55 (57 from 2028). The tax boost you receive on the money invested and any potential employer contribution makes them a very effective way of investing particularly over the longer term.
Both ISAs and pensions have a role to play in most people’s financial plans.
As you approach age 55 – what should you consider?
Once you reach 55 you can take money from your pension either as lump sums, income or both. This means they can offer an attractive alternative to ISAs, because of the tax boost provided by HMRC on money invested. This is particularly the case for those paying 40%- or 45%-Income Tax who expect to be 20% taxpayers when they take the money out.
Here’s an example:
- Tim has earnings of £60,500 and wants to invest £6,000 as a lump sum
- As a 40% taxpayer, he could invest £8,000 into a pension. HMRC would then boost this with a further £2,000 giving him a fund of £10,000
- He can then claim back an additional £2,000 direct from HMRC, meaning the cost to him would be £6,000
- Alternatively, he could pay £6,000 into an ISA
Taking the money out – to show the impact of tax relief, let’s assume the value of the pension and the ISA doesn’t move and there are no charges.
Tim has now retired and is a 20% taxpayer, with an income of £30,000:
| Pension | ISA | |
| Value of fund | £10,000 | £6,000 |
| 25% tax free | £2,500 | |
| 20% tax on remainder (£7,500 x 20%) |
(£1,500) | |
| Cash available | £8,500 | £6,000 |
Tim is 41.6% better off with a pension than an ISA in this example.
What’s right for you?
The right options for you will depend on your circumstances. An NFU Mutual Financial Adviser can work with you and recommend the right solution for you.
The value of investments can rise or fall, and you may get back less than invested.
The tax treatment of pensions and ISAs depends on your circumstances and may change in the future.
NFU Mutual Financial Advisers advise on NFU Mutual products and selected products from specialist providers. When you contact us, we'll explain the advice services we offer and the charges. Financial advice is provided by NFU Mutual Select Investments Ltd.
Looking for financial advice?
If you’re not sure how to put your financial plan in place, one of our NFU Mutual Financial Advisers can help. They'll be able to recommend products that are right for you based upon your personal circumstances. You can book an appointment with an NFU Mutual Financial Adviser by either calling: 0800 622 323 or requesting a call back.