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What is a lifetime ISA and how exactly does it work?
Lifetime ISAs are a new incentive by the government to help savers in what has been a difficult market for them over the last few years. They follow incentives such as the Help to Buy ISA and the rise in the personal tax allowance to improve the financial prospects of people, specifically savers.
The Lifetime ISA allows a saver to save up to £4000 a year and receive a bonus of 25% every year, meaning that there is the potential to earn up to a £1000 a year in bonus. However, there are restrictions on this which restricts when you can access your money. The money in the account can only be used to buy your first home or it must be kept in the account until you reach the age of 60.
Some more restrictions and requirements affecting these Lifetime ISAs include:
- You can only open a Lifetime ISA if you are between the ages of 18 to 40.
- There are two options available for the Lifetime ISAs: a cash Lifetime ISA and a stocks and shares Lifetime ISA.
- Only savings added to the account before your 50th birthday will receive the 25% bonus from the government.
- There is no maximum monthly contribution but you can only save £4000 in the account a year.
- Savings, and the bonus you receive on those savings, can be used as your deposit for your first home worth up to £450,000.
- If you already have a Help To Buy ISA you can transfer those savings into this new ISA in 2017 or use both but you can only use the bonus from one of the ISAs for your house.
- Once you reach 60 you can take out all of your savings tax-free.
- You can withdraw all or part of your savings from your ISA before your 60th birthday but you will lose your government bonus on your savings. There will also be a 5% charge to do this.
The Lifetime ISAs have been created to revolutionise the current savings system in the UK and though there are many positives to this scheme, some experts are worried about how these accounts could affects savers in the future.
Earlier this month, the Financial Conduct Authority (FCA) warned consumers of the risks of signing up to one of these ISAs and stated that there is a danger some people will not fully understand the ISAs.
The Lifetime ISA is not due to launch until April 2017 and like many other financial products there could be some risks attached to it for the consumer. The FCA have specifically warned about some investors potentially not understanding the difference between a Lifetime ISA and saving in a pension.
There are also the early exit charges to consider not only will you be charged 5% of the total amount of savings in the account but you will lose your 25% bonus from the government. That is a substantial sum of money that could be lost for early withdrawal, limiting flexibility to access your money, flexibility that you can get with other accounts albeit for lower bonuses.
The main concerns of the FCA include:
- A lack of understanding of the difference between a pension and a Lifetime ISA.
- Switching from a pension to a Lifetime ISA could see employees losing out on their pension contribution from their employer.
- After the age of 50, savers can no longer contribute to a Lifetime ISA so any savings after this age would need to be made into another account.
- The investment period and strategy will differ significantly for those wanting to buy a house versus those wanting to use the account to save for retirement.
- The government recently granted early access to pensions from the age of 57 or 58 whereas with these ISAs you cannot access the money until you are 60 unless you pay the large penalty cost.
- The early withdrawal costs may not be fully understood by some savers before they enter into this account agreement.
- Higher rate taxpayers current receive tax relief on their pension contributions and as a result, keeping their pension may be the better option financially for them.
There is set to be a 10 week consultation following the FCA’s findings before the Lifetime ISA and its rules come into effect in April 2017. It is hoped by many experts that the issues the FCA has found will be addressed and dealt with before the ISA is available for people to sign up to.
To find out more about the Lifetime ISA visit the Money Saving Expert website or get in touch with an independent financial advisor (IFA) as soon as possible.
References and further reading
HMRC Lifetime ISA image via bbc.co.uk