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If you are on the hunt for a property and are a first-time buyer under 40, a Lifetime ISA could make a massive difference to your deposit saving strategy.

Article by Paddy Denning

Lifetime ISA benefits – what are they?

If retirement planning has crossed your mind, chances are you’ve already started contributing to a pension and perhaps have a Stocks & Shares ISA as well. While both of these options offer their own advantages in building a substantial nest egg for your later years, there’s another product worth considering – the Lifetime ISA.

In today’s article, we aim to shed light on the benefits of the Lifetime ISA.

What is the Lifetime ISA?

In 2017, the Lifetime ISA (LISA) was introduced as a successor to the Help to Buy ISA, which had been popular among individuals seeking assistance in buying their first home. Apart from its home-buying benefits, the LISA serves as a valuable instrument for creating additional funds to support your retirement goals.

Related service: Savings & Investments

How does it work?

In brief, by saving up to £4,000 each tax year, you become eligible for a 25% bonus from the government. This implies that your £4,000 contribution will grow to £5,000 by the end of the tax year, essentially providing you with “free money.”

However, there are certain caveats to consider. The Lifetime ISA has two key uses:

  • To use as a deposit on your first home, up to £450,000. Please note, Buy to Let (BTL) does not qualify
  • As a retirement investment  fund – ou can have a cash Lifetime ISA or you can invest in Stocks & Shares (We wouldn’t suggest you invest your Lifetime ISA money if your property purchase is likely to proceed in the short term)

If you want to withdraw money from your Lifetime ISA for any reason other than the above, then there are penalties you’ll need to pay.

We’ll offer a more chapter and verse guide in future blogs. However, if you want to get into the nuts and bolts of this topic, then you can find out more by visiting the Lifetime ISA website.

Using a Lifetime ISA to buy your first home

If you’re currently searching for a property and happen to be a first-time buyer under 40, exploring the option of a Lifetime ISA could significantly impact your deposit amount. It’s important to note, that you must have held a Lifetime ISA for a minimum of 12 months before taking advantage of this option – assuming you meet this requirement, let’s consider the following example.

A working example

You are purchasing your first home with a partner, who has also never purchased a property before. In terms of a desposit, you contribute £4,000 (November 2022) and they do too.

Therefore, you have both contributed £4,000 each, with a total of £8,000.

After the government bonus, you’ll now have £10,000 to go towards a deposit. If you were to do this again in April 2023 (The next tax year) and you’ll have £20,000 saved, with £4,000 of that being free money from the Government.

Opening a Lifetime ISA  – the facts

You can only open a Lifetime ISA before you are age 40, many people miss out and leave it too late.

Once it is open, you can contribute up to age 50 and most people use it to purchase a property. Given the fact you can contribute to a Lifetime ISA until you’re 50, it could become an important part of your retirement planning efforts.

LISAs vs pensions

Let’s say you are earning £70,000 per annum – any pension contributions you make attract tax relief of 40%.

If you are a basic rate taxpayer in retirement, you’ll receive 25% of your pot tax-free and pay 20% tax on the 75% – a net rate of 15%. So you’ve made a 25% immediate tax saving.

Nonetheless, if your earnings are substantial enough to be subject to the tapered annual allowance, your pension contributions will be restricted to £4,000 per year. As a result, you’ll only receive tax relief of 45% on this limited £4,000 contribution.

This amount may seem rather small, especially when you consider your current lifestyle and the need to save more than £4,000 annually to secure a retirement similar to your present lifestyle.

Related reading: Should you invest in a pension or an ISA?

The benefits of using the Lifetime ISA in retirement

There are numerous options at your disposal when it comes to retirement planning. However, in this article, we will focus on exploring the advantages of the Lifetime ISA, in particular.

If you contributed £4,000 to a Lifetime ISA, you’ll receive £1,000 tax free from the government. And, when you withdraw it after age 60 you won’t pay a penny in tax – so you’ll have a guaranteed 25% return!

If you invest the money then the effect of compounding over 20 years could mean that £1,000 bonus is even more valuable.

My allowance isn’t tapered so why should I do this now?

Good question. Many of us don’t reach peak earning potential until after 40, and so by the time a tapered annual allowance issue is reached, it’s too late to open a Lifetime ISA. We would suggest opening a Lifetime ISA, even with a modest amount before you reach age 40, so that if you do reach the taper you’ll have the option to contribute in future years.

Quickfire Lifetime ISA FAQs

Keen to learn a little more? Here are some short, concise FAQs about the lifetime ISA.

What is a Lifetime ISA (LISA)?

A LISA is a tax-efficient savings account for UK residents aged 18 to 39, designed to help them save for their first home or retirement.

Who can open a LISA?

UK residents aged 18 to 39 are eligible to open a LISA.

What’s the annual contribution limit?

You can contribute up to £4,000 per year to your LISA.

Does this form part of my ISA allowance?

Yes if you contribute £4,000 into your Lifetime ISA, you can only contribute a further £16,000 into a Cash or Stocks & Shares ISA in that tax year.

Can I use a it to buy any property?

You can use a LISA to purchase your first home, provided it costs £450,000 or less.

Is there a penalty for early LISA withdrawals?

Yes, withdrawing funds for reasons other than buying your first home or retirement incurs a penalty.

Can I contribute to both a LISA and a pension?

Yes, you can contribute to both, but consider your financial goals and tax implications.

Are there government bonuses?

Yes, the government provides a 25% bonus on your annual LISA contributions.

Can I transfer existing ISAs into a LISA?

Yes, you can transfer funds from other ISAs into your LISA without affecting your annual contribution limit.

Is there an age limit for withdrawing funds for retirement?

You can access your LISA savings penalty-free at age 60 or older.

What happens to my LISA if I die before 60?

Your LISA can be passed to your beneficiaries without a penalty, but they won’t receive the government bonus.

Should I invest my Lifetime ISA?

If you are not buying a property, you won’t be able to access the Lifetime ISA without penalty until age 60, so it’s likely to be a good idea to consider this.

About the author – Paddy Denning FPFS

Paddy is a Chartered Finacial Planner and a Fellow of the Personal Finance Society. He offers financial advice in Rayleigh, Essex, and serves clients in the City of London. You can follow Paddy on LinkedIn and if you would like to discuss your savings, pensions, and investments, call him today on 01268 944122.

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