Over the festive period, one or two of us may have overindulged; leading to the typical knee jerk New Year's resolutions of trying to lose weight and a spike in gym memberships.
However, all too frequently these memberships may not be used as often as initially intended, meaning you are likely to lose more pounds (£s) than pounds (Ibs).
Others may want to buy their first house and, as such, may make the resolution to achieve that this year.
But according to a freedom of information request from a large insurer, this resolution could also lead to a loss of pounds in the monetary sense.
The Lifetime Isa (Lisa) was introduced in the 17/18 tax year.
Its stated aim was to “help young people save flexibly for the long-term throughout their lives”.
Lisa penalties
From April 2017 adults under the age of 40 could open a Lisa, with contributions continuing up to the age of 50.
A maximum of £4,000 can be paid in (using part of the annual Isa allowance) and the government will pay a 25 per cent bonus on top of this, a handy way to build up extra funds (also mirroring the effect of a relief at source pension contribution).
However, a staggering £4.35m in penalties was taken from savers in the 2018/19 tax year and £4.69m in the first seven months of the 2019/20 tax year.
So are savers aware of what they are signing up for?
The key thing here is that the Lisa only has three penalty free access points.
- To help purchase a first home up to £450,000 (after 12 months of saving)
- Becoming terminally ill with a life expectancy of less than a year
- Reaching age 60
One of the key implications of the Lisa is the penalty for accessing this early, via a 25 per cent government charge that’s applied.
When this is analysed it may be viewed as punitive. It is true that a 20 per cent deduction is applied to “take back” the government bonus which would effectively put a client back to parity, as £5,000 taken from a Lisa less 20 per cent would in effect give the client their £4,000 back.
But on top of this there is what is described as a “small additional charge” applied. This works out as an additional 5 per cent.
Assuming no growth, this charge has the effect of turning an initial £4,000 investment (which then had a £1,000 bonus applied to it) into £3,750.
Charges
Much is made of changes in our industry, and pension exit charges have been a particular recent focus.
But charges across the board are understandably under scrutiny. So can you call 5 per cent a small additional charge in the current environment?
In effect if a client is known to need the money outside of the ‘allowed’ Lisa access points, would an Isa not be more suitable?
Surely 100 per cent of your money back is better than 95 per cent?
While the FOI request doesn’t have the details on why the Lisa holders chose (or had) to access the money and pay a penalty, would they have invested their money in this way, if they had known that this would potentially make them poorer?
While the Lisa can be accessed without advice, there is an argument that savers should have greater guidance on the impact that using a Lisa could have on their wealth, if they need to access their money.
It’s a given that if they had received advice this would have been a key part of the discussion.
Having a sufficient emergency fund; discussion on investment terms and the impact of the penalties would take place, and perhaps the figures quoted above may have been less.
However, even the best advice is a snapshot of the current situation with assumptions made on the future.
So it’s reasonable to assume that, even with advice, some may have had to access this early. But it’s likely that this would have been a much less of an overall impact.
Advice adds wealth
The penalty isn’t to be taken lightly for those that are saving for their first home, as they’ll have less money to use.
And for those saving for access after 60, the assumptions can be quite complex if you compare the Lisa to a pension, as you then have to start factoring in tax rates now and in retirement.
There have been many studies showing the benefits of advice for the overall wealth of clients.
It begs the question as to whether the potential financial benefits from seeking professional advice should be signposted to investors as part of all non-advised transactions.
Mark Devlin is a senior technical manager at Prudential UK
