If you are thinking of saving to buy your first home you will want to brush up on your knowledge of Lifetime Individual Savings Accounts (LISAs). We look at what a Lifetime ISA is and how it works.
Back to NEWSThe Lifetime Individual Savings Account (LISA) was announced in the 2016 budget and made available to the public from April 2017. LISAs give people a flexible savings product that can be used for buying a house or saving for retirement. If you plan on using a LISA to purchase a house, the product must have been open for at least a year. When using funds within a LISA to purchase a house, you do not release the funds yourself as you would incur the withdrawal charge. Instead, your solicitor you are using to purchase the house would request the funds which circumvents this charge. As a LISA can be used to buy a house, this product replaces the Help to Buy ISA that was previously available to first time buyers.
So, how does it work? Anyone between 18 and 39 years old is eligible and savings contributions receive a 25% bonus from the government on the total value up until the LISA owner reaches age 50. For example, if you contributed £100, you would be entitled to a £25 bonus from the government. The timing of when the bonus is received depends on how the LISA provider operates. The maximum that can be contributed to a LISA is £4,000 per tax year excluding the government bonus, effectively meaning you can increase the value of your LISA by £5,000 per year.
Your contributions into a LISA form part of your yearly entitlement to contribute £20,000 into an ISA. By using a combination of a LISA and a normal ISA, you can effectively increase your yearly input into an ISA to £21,000, courtesy of the government bonus. A LISA is also a tax efficient way of investing. Outside of a LISA product, anything that provides you with interest, such as a bank account, would form part of your taxable income, this is not the case for a LISA. This also applies if you were to receive dividends from an investment or make capital gains from selling an investment. These are also tax-free when held within a LISA.
You are free to withdraw money from your LISA whenever you may wish to do so. However, in taking a withdrawal the government has imposed a 25% charge as a deterrent. The government introduced this product with the intention of getting the public to save for the future, not take advantage of the associated benefits. What you need to be aware of is that, although the 25% charge is the same as the bonus, the charge for withdrawing is more expensive. Using the same example as above, if you had contributed £125 including the government bonus but you decided to withdraw this, you would be charged £31.25 which is more than the bonus you were entitled to. Therefore, it is important that you only put into a LISA when you have enough saved and you wont need that money if there is a financial emergency. In the light of the COVID-19 pandemic, the government realised that this is sometimes unreasonable should you face financial difficulties. Therefore, the government imposed a precedent whereby, during periods of poor economic prospects, the withdrawal charge would be reduced to 20%. This reduction in charge effectively brings the individual back to square one as this charge would only reduce your withdrawal by the bonus you were entitled to.
When choosing a LISA you can choose between two different types: a cash LISA and an Investment LISA.
Cash LISAs: these work in much the same way like a standard savings account. You contribute your savings and receive interest, usually on a monthly basis. The figures you will see for interest are quoted per annum, and you will receive a portion of this yearly entitlement periodically, usually monthly. Currently in the market, providers are offering 0.10%-0.50%.
Investment LISAs: instead of holding your savings in cash and receiving interest, they will be invested into funds. These funds will fluctuate in value over time and will produce income in the form of dividends. Dividends are effectively the profits a fund has experienced that it distributes back to its investors. For example, a fund may hold shares in a company which would pay the fund a share of the profits, as an investor in this fund you are entitled to a portion of this. Not only do you receive an income, but the value of the fund will change over time in line with the investments the fund has made. Consequently, there are two possible income streams for an investment LISA, the growth of the fund and the dividends paid by the fund both of which are considered tax-free. Both of these income streams would be considered taxable outside of this product. It is important to note that, typically with an Investment LISA, any money which you do not invest would not generate you any interest. When choosing an investment LISA, it is important to consider how much risk you are comfortable with. If you are considering buying a house soon, taking more risk might mean the value of your LISA would be more volatile. You might want more certainty of exactly how much your LISA is worth. Therefore, you would need to consider what portion of your investments you would like to keep ‘safe’ and what portion you would like to take more risk with, in return for potentially higher profits.
Having an investment LISA does not mean you have to pick who you invest with. Although there are ‘Do-It-Yourself’ options out there, you can also choose a provider who assists you with this. There are providers who will ask you questions to determine what your appetite for taking risk is and, in turn, recommend their funds to you which they manage to reflect what they feel is a level of risk you would be comfortable with. However, if the level of risk is not what you anticipated, you are free to choose a different approach that they offer which you would accept. Alternatively if you are not sure whether you want to go DIY on your financial planning you could think about using a financial adviser, especially if you want more coaching and education around what to do with your money. A lot of people think a financial adviser is for rich people or people nearing retirement. That is not the case with Unividual. To find out more about how we can help you save to buy a house or apply for a mortgage don’t hesitate to get in touch with us or you could check out our ultimate guide to managing your money in your 20s and 30s.
Author: Billy Mabberley
Editor: Cherie-Anne Baxter
Date: 9th November 2021
Investors do not pay any personal tax on income or gains, but ISAs do pay tax on income from stocks and shares within the
funds.
Tax treatment varies according to individual circumstances and is subject to change.
The value of investments and the income they produce can fall as well as rise, you may get back less than you invested.
