Pension or ISA: which is best for you?

  •  By
  •  Murray Humphrey

When it comes to saving in the UK, we can feel a little spoilt for choice. Pension or ISAs, cash or shares - all fantastic ways to grow your wealth. But what are their pros and cons and, more importantly, which option is right for you? In this article, we’re asking: ISA or pension: which is better?

Pension vs ISA

At their core, both pensions and ISAs are very similar. They’re both designed to help you grow your money for the future. Whether ISAs or pension is best for you will mainly depend on your goals. What are you saving for?

A pension is built to help you save for life after work. You pay in over the course of your life and only get access to your money when you reach 55 years old.

ISAs tend to be a little more flexible, eschewing the tax benefits to give you access to your money sooner - although this isn’t the case for every kind of ISA.

Here’s a quick breakdown of the types of ISA available today.

Types of ISA

A table comparing difference types of ISA

Pensions and ISAs comparison

Let’s take a closer look at the relative strengths and weaknesses of Cash ISAs, Stocks and Shares ISAs and pensions.

Accessing your money

One of the big differences between pensions and ISAs is when you access the money inside them.

Pensions are designed for long-term saving - built to provide you with an income later in life. You can access most private pensions from 55 (rising to 57 in 2028).

ISAs vary, but the majority are accessible as and when you need them, a great option for short or medium-term saving.

The only exception is the Lifetime ISA (or LISA) which, similarly to a pension, can only be withdrawn in two specific circumstances - when you reach 60 years of age, or when you buy your first home. Otherwise, you’ll face a hefty 25% charge.

Saving Limits

Another key difference is how much you can save. Whether you’re saving into a cash ISA or a pension, you’ll need to keep an eye on your yearly allowances.

You’re allowed to save a total of £20,000 each year across your ISAs. This can be spread over multiple types of ISA - for example, you could put £10,00 into a cash ISA, £4,000 into a LISA and £6,000 into a Stocks and Shares ISA. But you won’t be able to pay anything above £20,000 until the next financial year (April 5th).

You can save up to £60,000 a year into your pension.

Tax benefits

As mentioned, both pensions and ISAs offer attractive tax relief.

With a pension, any tax owed on your contributions is added to your pension instead. Effectively, you can think of it as a 25% top-up from the government. If you’re paying in via your workplace pension, this will be applied automatically for you, adding directly into your pension pot.

For private pensions, your pension provider can arrange basic tax relief for you - higher and additional rate taxpayers can then claim additional tax relief back via their self-assessment tax return. You can use this tax rebate any way you like.

When it comes to withdrawing your savings, you can take out 25% of your total pension pot tax-free. The rest may be taxed as income, depending on how you withdraw.

ISAs let you grow your money free from tax. When you want to withdraw your savings, you can do so without owing any additional Income or Capital Gains tax. You won’t get any tax benefits on your contributions, but y

The only exception is the Lifetime ISA. Here, similarly to a pension, the government will add a 25% bonus on contributions, up to a maximum of £1,000 a year.

Here’s a quick, high-level comparison of pensions and cash ISAs.

A table comparing pensions and ISAs

Can I move my pension to an ISA?

Unfortunately, you aren’t able to transfer your pension into an ISA before you reach 55. Once you’ve reached retirement age, you are free to access and move the funds within your pension as you please. At this point, if you wish to withdraw up to £20,000 from your pension to store in an ISA, you are free to do so.

As always, it’s important to think of tax implications before making any decisions. We recommend speaking to a financial adviser first.

Inheriting a pension or ISA

Another key consideration in pension vs ISAs is the issue of inheritance. For pensions, passing your pension on after death depends on two things:

  • The age you die
  • The type of pension

For defined contribution pensions, If you die before you reach 75 you can pass your entire pot onto your named beneficiary tax-free - whether you’ve started to access your savings or not. If you die after 75, your beneficiaries may need to pay Income tax on anything they inherit.

For defined benefit (final salary) pensions, inheritance rules vary by the scheme. Speak to your pension provider for more information about what happens if you pass away.

ISAs work a little differently. Savings in your ISA will form part of your estate along with your other financial assets, meaning any beneficiaries will have to pay Inheritance Tax on anything they inherit. Currently, in the UK, this is 40% on estates valued at over £325,000. This doesn’t apply if you’re passing on to a spouse or civil partner.

Should I invest in a pension or ISA?

So, which option is right for you? As you can see, both pensions and ISAs offer an attractive, efficient way to save. The general rule is this:

  • Pensions are the best way to save for retirement
  • ISAs are better for shorter-term saving

While it can be tempting to keep it simple and choose one option exclusively, a diversified savings setup helps you to cover all future eventualities. It’s a good idea to take advantage of as many savings options as you can to maximise your tax relief and bonuses. This helps provide the platform you need to reach your short, medium and long term savings goals.

Penfold gives you complete visibility into your pension to help you reach your savings goals. It’s the pension that feels like a bank account.

Take control of your finances with an easy to use, powerful pension that lives on your phone by creating your free account today.

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Murray Humphrey


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