Do you have money invested in an ISA? There may be a better place for this money!
Investing in an ISA has been a very attractive option and this is being extended by the government in the budget announcement. Next year (2015/16) you will be able to invest £15,240 in an ISA and you now have the facility to move this money between Cash ISA’s and Stocks and Shares ISA’s.
The announcement also stated that ISA’s tax breaks will pass to a spouse. However, this money is considered part of your estate and potentially subject to IHT on your death.
It is important to consider how much money you have invested in Cash ISA’s because over recent years the returns on Cash (the interest paid) has not kept pace with Inflation. Therefore, the actual ‘buying power’ or value of your money will have reduced. The solution to this is to consider how much risk you are willing and able to take with your investment and possibly to invest in a mixture of other types of assets through a Stocks and Shares ISA.
If you would like advice on a Stocks and Shares ISA investment please us today.
Now the exciting stuff….
Stocks and Share ISA’s do not benefit from tax relief on any contribution. This means that you pay £100 from your pocket and you get £100 investment.
With a pension you get tax relief. This means that as a basic rate tax payer (20%) you will pay £80 from your own pocket and get £100 applied to your plan because the government pay your £20 tax back in for you.
Both an ISA and a Pension can invest in the same types of funds and they both do so in a tax efficient manner.
However, when you want to take the money out, you can take the ISA at any time and its tax free. The pension can only be taken after the age of 55 and you can only take 25% of the fund tax free and the other 75% will be taxed as earned income (Income Tax).
So let’s do the maths together:
You are a Basic Rate Taxpayer and you pay £8,000 into your pension using your ISA funds? The government will give you the £2,000 tax back to make your investment up to £10,000.
Assuming there is no fund growth, when you take your pension you can take £2,500 tax free. You will also be able to draw £7,500 as a taxable sum. If you are still a basic rate taxpayer the net amount you receive is £6,000.
So, you paid in £8,000 and you have received £8,500. This is an immediate gain of 6.25%.
This is even more attractive if you are currently a Higher Rate Taxpayer (HRT 40%). You pay in £6,000. The government will pay in your £2,000 basic rate tax and they will adjust your tax code so that you pay £2,000 less tax (you get to keep £2,000 more in your pocket).
Assuming you become a Basic Rate Taxpayer (20% – under £42,385 for 2016) when you take the benefit, the impact of this is that you have a gain of 31.25%. Even if you are still a High Rate Taxpayer on withdrawal, you still have a gain of 12.5%.
In a pension, if you die before the age of 75, the fund can be paid tax free to anyone you desire tax free. This is outside of your estate and doesn’t suffer IHT or income tax. If you die after the age of 75 the changes will mean that your beneficiary will pay income tax on the funds they receive.
So, in summary, if you are happy to put the money away until you are 55 or if you are already over 55 paying money into a pension would be a very beneficial method of investing. From April 2015 you can withdraw your entire pension savings in one go and do not need to buy an annuity.
And, in the event of your death the pension fund is not part of your estate for IHT but an ISA is.
If you have funds over £30,000 in an ISA or a Bank Account, it is worth picking up the phone and making an enquiry into how we can immediately grow this money 01622 664440
The small print…
Are there limits on the amount you can pay into a pension?
- You must have sufficient earnings to support the level of contribution you wish to make.
You can get tax relief on every penny you contribute, up to 100% of your annual earnings, with an upper limit of £40,000 in 2014/15. The government limits the amount that can be paid each year, to all your pensions, before incurring a tax charge. If you exceed this ‘annual allowance’ you may be liable to a tax charge and must tell HMRC through a tax return. However you may be able to ‘carry forward’ unused allowance from up to three years earlier. What this means is that as long as you have a pension policy in place for the previous 3 years, you use up any allowance not already used. This was £50,000 annual allowance for each of the 3 years. Potentially, you could pay in up to £190,000 in a pension.
Earnings are UK Relevant Earnings and do not include any pension income or dividend income. It would be salary, wages, bonuses, overtime and benefits in kind etc…
If you don’t pay tax, you can still benefit from tax relief on contributions you make, up to a limit of £2,880. The tax man will also add 20% to make the total £3,600.
It is worth noting that if you take income (crystallised pension) from your pension in the future, the amount of annual allowance will be reduced from £40,000 to £10,000 per annum. This reduces the maximum you can pay in in the future to a pension and get tax relief.
Date written – 08/12/2014