The new savings success story

Isas are incredibly popular and have become the savings success story of modern times. The tax-free nature of the product, aligned with simplicity of operation, have made Isas a natural home for short and medium-term saving. Equally as important is the ability to easily access the money when needed – although many choose to keep their cash within the Isa wrapper.

For those looking for a tax-efficient way to manage their longer-term investments, the stocks & shares Isa has established itself as an ideal choice. Flexibility in the form of the ability to move investments or cash in if needed is again of paramount importance. At the end of the 2014 tax year Isas totalled £469.6bn in value, of which approximately 51 per cent is held in the stocks & shares component.

At the same time as Isas were growing in popularity, so pensions seemed to be in decline. Negative press comment, the closure of defined benefit schemes – indeed, unwillingness from some employers to offer any form of pension scheme - was increasingly pushing people to take personal responsibility for their financial wellbeing in retirement, or leave it to chance.

Those who still enjoyed employer contributions into their pension fund were questioning whether they should continue to top up with additional voluntary contributions. The crux of the issue was the inability to access these funds until retirement. Isas offered an attractive alternative, and the money belonged to the investor to access whenever they needed it.

From a tax perspective, many were also realising that an Isa could offer them a better option for their personal circumstances. It soon became commonly held that the bulk of inflows into stocks and shares Isas were from those looking to create an additional pot to supplement their income in retirement. For many, inheritance issues played a key part in their decisionmaking and the ability to pass on their savings to the next generation was a major factor in choosing an Isa over a pension.

It is also important to consider the financial priorities of the younger generation. Often saddled with student debt, high costs of living and wanting to build up a deposit for a property purchase, the idea of committing money to a fund that cannot be accessed for 35 years remains a complete anathema.

A more flexible solution is required which enables them to save for their short and medium-term needs, while being able to access longer-term savings in an emergency. New developments to the Isa regime announced by the chancellor last year are reinforcing the attractiveness of Isas. The ability to transfer from stocks and shares into cash is particularly important for those wanting to draw down their investments in the most tax-efficient way to create an income in retirement.The signs are that moves to include peer-to-peer lending as an Isa qualifying investment will also be particularly well received.

Set against this, pensions had become a rather tired product with questions on whether it was still fit for purpose. However, few would have predicted the radical changes being introduced by the pensions minister Steve Webb. Coupled with the success of auto-enrolment, these are breathing new life into pensions.

The changes will introduce much needed flexibility into the way people can access their pension. Options to take the whole as a lump sum, to access tax-free cash and to pass on the pension tax free is giving people greater choice over how they access a defined contribution pension. From April this year, those aged 55 or over will see withdrawals treated as income and tax will depend on the amount of other income in the year. Contrast this with the 55 per cent tax for full withdrawal previously imposed. The rules are also being extended to an estimated 18 million people who will be able to transfer from a defined benefit scheme to a defined contribution one if they wish to access their pension flexibility.

One of the biggest boosts from the changes will be the ability for people to pass their pension to others without paying tax. In future, those who die under 75 with a defined contribution pension will be able to pass on their unused pension as a lump sum to a person of their choice, tax-free.

In a further announcement in the 2014 Autumn Statement, the chancellor also signalled that payments from certain types of annuities will be tax-free when paid to a beneficiary if the policyholder dies below the age of 75. Even those who die after the age of 75 with unspent defined contribution pensions will be able to pass this to a person of their choice who will be able to take it as a lump sum taxed at 45 per cent or as income and pay their normal rate of income tax.

These changes are extremely welcome and should act as a real boost to encourage people to save for their retirement, confident that they will have control over their hard-won savings. The growing popularity of self-invested personal pensions which offer much wider investment powers covering a broad range of assets is a good example of how people are becoming more engaged with their pension saving.

Changes to the state pension to introduce a flat-rate pension will also help to remove unwanted complexity and allow people to make realistic plans on how to fund their retirement.

All this is good news for the industry. An increase in the prominence of corporate platforms is anticipated following the new retirement freedoms and increase to Isa subscription limits. Integrating a SAYE scheme with the workplace Isa will allow employees to transfer shares into the Isa and also mitigate capital gains tax liability. The evolving maturing SAYE scheme market will also prove attractive to asset-gathering platforms. In addition, there are clear advantages linking a share incentive plan (SIP) with a workplace Sipp allowing employees to benefit from double tax relief. This new flexibility in product alignment is expected to spark further platform innovation to accommodate developing consumer demand.

These platforms can also hold the employing company’s stock, certainly useful as part of an employment contract, and provision of Isas and pension wrappers allow these assets to be held in the most tax-efficient manner. These platforms will enable employees to diversify their company shareholding, reducing the concentration risk of investment.

The pension freedoms announced in the March Budget mean pensions are back in vogue. Investors will increasingly want to seek out advice to ensure they have a financial plan in place that will make the most of these new-found freedoms when the time comes. Advisers can help to educate people about the need to increase their personal levels of savings and investments, particularly in relation to retirement, long-term care and inheritance planning. The reforms provide an ideal reason to engage with those who have become disenfranchised with pensions in the past.

Isas still have a prominent and complementary role to play alongside a pension plan but the new reforms have opened up a much wider range of options and offer the flexibility missing from the past. There is an opportunity there for those advisers who wish to take it.

Peter Smith is head of distribution engagement at Tisa

Key points

The raft of announcements on the new pension freedoms is introducing a level of flexibility that could see pensions taking over from Isas

At the same time as Isas were growing in popularity, so pensions seemed to be in decline

The pension freedoms announced in March 2014 mean pensions are back in vogue.