Lifetime Isa blurs lines between long and short-term saving

In today’s announcement, George Osborne was comparatively gentle on pensions considering his previous Budgets, but the introduction of a Lifetime Isa from April 2017 marks a game change in retirement saving.

By making pension savings accessible to savers before they reach retirement age, Osborne has broken what some might see as the first rule of pensions, blurring the lines between saving and saving for retirement.

If the Lisa proves very popular with younger people then you could see that giving the chancellor justification in a future Budget to adjust pension tax rules

Duncan Buchanan, SPP and Hogan Lovells

The new Lifetime Isa will be available to under-40s only, and will have a savings limit of £4,000. Contributions will be topped up by the government at a rate of 25 per cent, or £1 for every £4 put in.

The move is made alongside a rise in the savings limit for ‘normal’ Isas to £20,000 from April next year, up from £15,240, compounding the incentivisation push for saving in the retail space.

Money in the Lifetime Isa can be accessed without a penalty from age 60, but, crucially, is accessible during the savings phase for buying a first home worth up to £450,000.

Cash can also be taken out before retirement, although to act as a disincentive, savers will lose the government top-up, including interest, and will have to pay a 5 per cent penalty charge.

While termed ‘Lifetime’ Isa, savings into the vehicle will stop accumulating the 25 per cent government ‘bonus’ when savers reach age 50.

Industry response

Duncan Buchanan, president of the Society of Pension Professionals and partner at law firm Hogan Lovells, said the Lifetime Isa will be popular with younger people, but raised concerns about how the new vehicle would interact with pensions and auto-enrolment.

“Our first thought is we need to make sure the system is lined up with pensions,” he said.

He said employees, preferring the Lisa’s flexible access offering, could opt out of pensions and ask their employer to fund their Lisas.

“Is the government planning to change auto-enrolment… could [employers] also comply with their obligation by making a contribution into a Lisa account if requested by the employee?”

Buchanan said the government could use the Lisa as a way of justifying a potential later change to pension taxation.

“If the Lisa proves very popular with younger people then you could see that giving the chancellor justification in a future Budget to adjust pension tax rules,” he said.

While the chancellor said the reason young people do not save enough for retirement was because pensions are seen as “complicated and inflexible”, Darren Philp, director of policy and market engagement at provider B&CE, said the introduction of the Lifetime Isa exacerbates this.

“There are different incentives and trade-offs now,” he said. “If we’re not careful that could just add to confusion.”

Kevin Wesbroom, senior partner at consultancy Aon Hewitt, called the Lisa a “Trojan horse” that will turn out to be a Pension Isa.

He said while it is good news the chancellor acknowledges that people save in different ways, mixing pension and non-pension saving creates “scope for confusion” and could be part of the Treasury’s plan to later justify rolling pensions and Isas into one as a Pisa.

Wesbroom also warned that as many will want to use their savings for a deposit on a house, “they will invest in things like cash, which is a rubbish investment if you’re trying to save for your long-term retirement”.

Malcolm McLean, consultant at Barnett Waddingham, said he has “mixed feelings” about the Lisa.

“If it encourages people to save then that’s good,” he said, but he added that the fact savings are accessible means retirement incomes could be lower.

“The end [output] is lower long-term saving in consequence of this.”

McLean suggested the Lisa is fundamentally a version of the Pisa. “I get the impression that Osborne has wanted all along to introduced this Pensions Isa… this is the nearest he could get to it without completely ruining the pension system,” he said.

“The lines between long and short-term savings are becoming increasingly blurred,” he added.

“Mass confusion”

Steve Webb, policy director at insurer Royal London, added to the concerns about the lines blurring between different savings purposes and said the new Lifetime Isa risks “mass confusion” and a rise of young people opting out of pension arrangements.

“The value and existence of employer contributions must be made explicit when people are auto-enrolled – when you opt out you are losing something you won’t get through any other route,” he said.

He poured scorn on the 5 per cent penalty exit charge from the Lisa. “It sounds terribly flexible but you lose 5 per cent of anything you take out, which is a pretty hefty penalty.”

Tax relief on advice

He said the government’s plans to increase the tax and national insurance contributions relief available for employer-arranged pensions advice from £150 to £500 are a “good thing”, but added that savers could not get a “huge amount of advice for £500”.

Under the new exemption, sketched out in this week’s Financial Advice Market Review, the first £500 of any advice received will be eligible for the relief, effective from April 2017.

Overhaul of guidance and advice bodies

As part of changes to the system of guidance and advice, the government proposes replacing the Pensions Advisory Service, the Money Advice Service and Pension Wise with a pensions guidance body and a money guidance body.

In its consultation document proposing the change, the government said: “The current arrangements are inefficient, and costs associated with maintaining multiple websites and promoting multiple brands is using funding which could be channelled directly to consumers.”

Aon Hewitt’s Wesbroom said if the proposals go through, the emphasis of the services might change.

Notably absent from the Budget was an expected attack on salary sacrifice arrangements, or the 25 per cent tax-free lump sum.

The Budget document said the government might limit the range of benefits that attract income tax and national insurance contribution relief under salary sacrifice, but added: “The government’s intention is that pension saving, childcare and health-related benefits such as cycle to work should continue to benefit from income tax and NICs relief when provided through salary sacrifice arrangements.”

Wesbroom said “it is so difficult to believe” that the option of limiting salary sacrifice is off the table for good, observing that if the European Union referendum had not come up, the Budget might have looked very different. “It does feel like unfinished business,” he said.

Public sector pensions

As part of his bid to shore up public finances, Osborne also announced plans to revise down the discount rate for public sector pension schemes from CPI + 3 per cent to CPI + 2.8 per cent.

“To ensure those pensions remain sustainable, we have carried out the regular revaluation of the discount rate and public sector employer contributions will rise as a result,” he said.

“This will not affect anyone’s pension, and will be affordable within spending plans that are benefiting from the fiscal windfall of lower inflation.”

The discount rate was last set in 2011, at which point the government committed to review the rate in five years’ time. According to Budget documents, the measure is expected to increase employer contributions made to the unfunded public sector pension schemes by £2bn per year from April 2019.

Mark Packham, director of public sector pensions at consultancy PwC, said an increase in employer contributions would have a “knock-on effect elsewhere”.

“It will have the result of increasing the contributions that emerge from the next round of unfunded scheme valuations,” he said.

“Whether it also opens up questions around recalibrating the benefits that accrue in those schemes – that is not a possibility you can completely discount.”

Packham said the government actuary department’s change to the discount rate will influence the actuarial assumptions adopted later this year for the triennial valuation of the Local Government Pension Scheme due on March 31.