Higher earners in particular may feel they are somewhat restricted when it comes to retirement planning with a pension – even through DIY pensions such as the Self-Invested Personal Pension (SIPP) – as the annual pension allowance is sitting at just £40,000. For those looking to save more than this for later life, an ISA and its tax wrapper could play an important role.
And when looking to an ISA for retirement planning, the most obvious is the Lifetime ISA.
However, the Lifetime ISA is not the only option. All ISA products could, theoretically, be used to save or invest for retirement, but some could be more appropriate than others.
Choosing an ISA to use for retirement planning
As one of the Lifetime ISA’s main purposes is to help you save for retirement, it offers a 25% Government ‘bonus’. This means for every £4 you save, the government adds £1 – up to a maximum of £1,000 per year.
For this reason, it’s an appropriate option when looking to use an ISA to supplement your retirement pot (especially as the funds cannot be accessed fee-free until you reach 60 years of age). However, there is a drawback – the Lifetime ISA’s low subscription limit.
Whilst the annual ISA allowance for 2021/22 is £20,000 and the subscription limits for the Cash ISA, Stocks and Shares ISA and Innovative Finance ISA (IFISA) match that at £20,000, the maximum you can subscribe to a Lifetime ISA this tax year is just £4,000.
Therefore, for those looking to save or invest significantly more using an ISA, one of the other three main Adult ISA options could be a better consideration.
For cautious savers looking for low risk, the Cash ISA will be most appropriate – as it is a savings account whereby capital is not at risk and it is protected by the Financial Services Compensation Scheme (FSCS). But returns on a Cash ISA are at rock-bottom, with some actually losing savers’ money.
For those willing and able to take more risk in the hopes of boosting their retirement fund substantially, a Stocks and Shares ISA or an IFISA could be a more attractive consideration.
The Stocks and Shares ISA is a long-term investment option, and it’s advised that you stay invested for a minimum of five years – but the longer the better, as this gives time for any falls in value to recover. This is especially important to keep in mind due to the volatile nature of the Stocks and Shares ISA, especially over the past 18 months.
Therefore, the length of time until you plan to retire will play a role in deciding whether a Stocks and Shares ISA could be the right ISA option to help you build up additional funds for retirement. If you are not looking to retire for another 20 years and you are happy to take on the associated risks of the stocks market in order to target tax-free returns in excess of 4%, it could be worth considering the Stocks and Shares ISA.
However, if you wish to retire much sooner – for example, within five years – the IFISA could potentially be a better option.
The IFISA is considered a medium-term investment, with its fixed-term periods generally ranging from two to four years. And on top of this, there are several other features of an IFISA that could make it an important consideration for experienced investors looking to supplement their pension pots.
Using the IFISA for retirement planning
The IFISA has grown rapidly in popularity with experienced investors over the years. It enables them to invest into impact-driven investment such as property bonds whilst targeting potential returns of between 4% and 8%.
But it’s control, flexibility and potential to provide a steady stream of income into retirement are what could make it a particularly attractive option for retirement planning.
Unlike with many pension planning options, an IFISA allows you to decide where your funds go. If you’re interested in investing into property but don’t want the hands-on nature of buy-to-let, a property-backed IFISA could be for you. Or, if you’d like to support small businesses, an SME lending IFISA could be appropriate.
Using an IFISA, not only can you potentially supplement your pension pot significantly due to the high target returns, you could also invest for impact via the above methods.
In addition to this, as well as paying out a lump sum at the end of an agreed fixed term, the IFISA also often boasts the ability to pay interest quarterly. This could provide a potential steady stream of income for those in retirement, and offers a set, expected return date – though it’s important to remember that as with all investment products, returns are not guaranteed.
If you invested some of your annual ISA allowance into an IFISA with the view of keeping it there until you’re ready for retirement, you could re-invest the proceeds each year to create a compounding effect. Once you’ve retired, you can start to withdraw some of the proceeds as income.
What’s more, the ISA transfer process allows you to easily transfer funds from ISA products that are no longer meeting your financial requirements to products that support your pension planning goals. All possible without impacting on your current year’s ISA allowance, you could target considerably more percentage points each year, which when accounting for the above compounding effect too, could see a rapid increase in the value of your pension pot.
Using an ISA for retirement planning
It’s clear that the tax-free, £20,000 annual allowance offered by an ISA has the potential to be an attractive supplement to pensions, helping you to save more for later life.
The variety of ISA products available mean that understanding your risk profile, goals, and when you wish to retire is important before making any decisions – and you should always speak to an independent financial adviser before investing.
But for experienced investors in particular, the IFISA could be an attractive consideration due to its high target returns, choice over investments, and its potential to provide a steady stream of income.