Given the fact that we’re living longer and our money doesn’t go as far as it used to, many are thinking about how to save more efficiently for our retirement. It’s a good idea to find different ways that your money can work for you so that you can get out more than you put in. One of the most common forms of saving account is the workplace pension, although ISAs are also a popular option for individuals wanting to access their money in the near future.
You can earn more money if you pay into a pension or ISA as they often accompany attractive tax reliefs and interest rates. However, there are also certain restrictions around both, which means that you will need to consider how and when you want to access your money before choosing either option.
When it comes to saving for your future you may be considering whether it’s better to invest in a pension or ISA, but there are both negatives and positives for both options.
In this article, we’ll look at the characteristics of pensions and stocks and shares ISAs to consider the differences between the two and whether one is better than the other.
What is the State Pension?
Men born after 6 April 1951 and women born after 6 April 1953 are eligible to receive the new State Pension when they reach the State Pension age. Individuals born before these dates are eligible to receive the basic State Pension.
New State Pension
The State Pension that you receive will be based on your National Insurance contributions. The full State Pension is currently £185.15 per week, but some individuals may be eligible for a higher amount if they have earned more than a specific amount of the Additional State Pension or if they delay their claim of the State Pension.
You will receive more than the State Pension during your retirement if you have other types of pension income, such as a workplace pension or a personal pension. You may also have to pay tax on your State Pension if your total income exceeds your Personal Allowance, which is currently set at anything earnt over £12,570 for a basic rate taxpayer. Your total income may also include taxable benefits that you get, money from property investments and savings.
After you have made a claim for your State Pensions, you’ll get a letter about when and how you will receive your payments. The new State Pension is normally paid once a month into an account that you have chosen. The money is paid in arrears, which means that you will be paid for the previous four weeks rather than the next.
The first payment will be made within the first five weeks that you reach State Pension age. However, you may be paid a partial payment before the first full one. Each full payment will be made every four weeks after this date.
Your National Insurance number will determine which day of the week you receive your payment. The corresponding numbers and days are as follows:
|Last 2 digits of your National Insurance number||Payment day of the week|
|00 to 19||Monday|
|20 to 39||Tuesday|
|40 to 59||Wednesday|
|60 to 79||Thursday|
|80 to 99||Friday|
Basic State Pension
You are eligible to claim the Basic State Pension if you are a man born before 6 April 1951 or a woman born before 6 April 1953. You must also have done one of the following for over 30 years to qualify:
- paid or received credit for National Insurance contributions
- received National Insurance credits (due to illness, unemployment or acting as a carer)
- paid voluntary National Insurance contributions
The full Basic State Pension is £141.85 per week. However, you may be able to increase the amount that you get paid by delaying your Basic State Pension or inheriting an increase from your spouse or civil partner. You may be able to inherit if your State Pension payments are less than £141.85 per week or you do not receive a State Pension.
What are workplace and personal pensions?
Aside from State Pensions, you might also be eligible to receive a workplace pension or arrange a personal pension yourself. Below are the stipulations for both:
Employees can pay a percentage of their income into their workplace pension every time that they are paid. These schemes are offered by employers, who may also contribute a percentage of your income to the pension. This money may be eligible for tax relief.
You will be automatically enrolled in your workplace pension scheme if you meet the following criteria:
- you’re employed
- you’re aged between 22 and State Pension age
- you earn a minimum of £10,000 per year
- you (usually) work in the UK
Your employer may not automatically enrol you for reasons such as if you are from a member EU state or you’re in a limited liability partnership. However, you can still ask to be enrolled. Your employer does not have to contribute to your pension if you earn less than £520 a month, £120 a week or £480 over 4 weeks.
The amount that you and your employer pay into your pension will depend on the scheme and whether you have been automatically enrolled or have opted in. For example, you may pay £40 into the scheme, your employer pays £30 and you receive a £10 tax relief. This will mean that the final total of £80 will be paid into your workplace pension.
The government will usually give your workplace pension tax relief if you pay Income Tax and you pay into a workplace or personal pension scheme.
Unlike State Pensions and workplace pensions, a personal pension is a scheme that you arrange yourself and aren’t automatically entitled to. However, some employers may offer personal pension schemes as a workplace pension. The amount you are given from the pension scheme will usually result from the amount that you have paid into it. It might also be affected by the fund’s investments and whether they have risen or fallen and how you decide to take your money.
There are different types of personal pension schemes. These include:
- stakeholder pensions – must meet government guidelines
- self-invested personal pensions (SIPPs) – allow flexible control over investments
What is a stocks and shares ISA?
ISA stands for Individual Savings Account, which is a type of tax-free savings account. A stocks and shares ISA allows you to put money into different types of investments such as individual shares, investment funds, and bonds and gilts.
To be eligible for an ISA, you must be over 18 years old and be a UK resident for tax purposes. You can pay a maximum of £20,000 into ISAs in the tax year 2022-2023. This allowance can be split between various ISA accounts such as a stocks and shares ISA, Cash ISA and Lifetime ISA. However, you can only have one type of each ISA.
You’ll usually have to hold a fee for a stocks and shares ISA, although they usually don’t cost more than general investment accounts. There are two sets of charges to pay: fees set by the investment platforms or financial adviser and fees set by the individual fund managers if you’re buying funds. It’s important to consider the cost of the funds as they will impact how well your investments do in the ISA.
What are the benefits and disadvantages of a stocks and shares ISA?
Stocks and shares can be volatile, but there are many benefits if you are careful with where you invest your money. Below are several ways that you can benefit from a stocks and shares ISA, as well as ways that you may be at a disadvantage.
Benefits of stocks and shares ISA
There are tax advantages to having a stocks and shares ISA. This can be significantly increased if you are a high or additional-rate taxpayer. You won’t have to pay Dividend Tax, Income Tax or Capital Gains Tax on the money that is invested in a stocks and shares ISA. Your investment won’t be shielded from Investment Tax or Stamp Duty when buying shares, however.
ISAs can be a good way to start out as an investor because they aren’t as risky as other types of investments. You can choose to ethically invest in a company that has a positive impact on society and the environment. This will ensure your money is helping a good cause whilst also giving you the chance of high returns.
You can move your money from one account provider to another if you aren’t happy with your returns or think the account fees are too expensive. You could also choose to consolidate your money from various ISAs so that you only have one set of fees and documents to contend with.
Disadvantages of stocks and shares ISA
No investment is 100% risk-free and any companies that claim to be could be a scam. Therefore, you may prefer to put your money into alternative ISAs, such as cash ISAs, lifetime cash ISAs or savings accounts to guarantee that your money is fully protected.
The value of your stocks and shares ISA can increase, but there is also a chance that it can decrease too. This may not be a good investment option if you want to be a short-term investor because of the rate that the market can change.
You will also have to pay additional costs such as fund fees and charges as well as management, platform and exit fees when you close the account.
How does a stocks and shares ISA compare to pensions?
There are pros and cons to both a stocks and shares ISA and pensions but one of the most important factors when deciding where to invest your money is what you are trying to achieve. An ISA may be a better option if you want to access your money in the near future as you can manage your ISA depending on your financial goals and personal situation. However, pensions have certain stipulations that mean you may not be able to access your money for a number of years.
Your employer will add to your workplace pension, which means that your pension pot will increase quicker with what could be considered ‘free’ money. An ISA, on the other hand, is solely your responsibility and won’t be added to by your employer.
There is a limit of £20,000 that each person can pay into their ISAs each year. Pensions don’t have a limit on the amount that you can pay in, but you will only receive tax relief on 100% worth of your annual income or the annual allowance of £40,000 per tax year.
Your pension pot can be inherited by a named beneficiary when you die, as long as you have named them in your Will. Pensions aren’t subject to Inheritance Tax, although any money that you have already withdrawn may be taxed. Your spouse or civil partner could inherit your stocks and shares ISA, but they would have to pay tax on it if your total estate exceeds £325,000.
A stocks and shares ISA may be a better option if you want to access your money in the short term because you are investing with a specific goal or you want to access your money before you reach retirement age. However, your pension savings, whether it’s from a workplace scheme or a self-invested personal pension, will be harder to access until you reach retirement age.
There are tax benefits to stocks and shares ISAs because they are considered tax-free savings. You won’t pay Income Tax, Dividends Tax or Capital Gains Tax on any money that you have invested in the ISA. This makes ISAs tax-efficient, although you may have to pay withdrawal charges or Capital Gains tax if you move money from or into your ISA.
Pensions are designed to help you in your later years and are therefore a guaranteed source of income when you reach State Pension age or retire. They won’t necessarily provide you with the high return that a stocks and shares ISA could, but they are seen as being more reliable.
Both a pension and stocks and shares ISA can be good ways to save your money and get out more than you put in. A pension is a pot of money that you can add to so that you have retirement savings, whilst a stocks and shares ISA is a type of investment that could see your return go up or down, depending on the value of the assets you invest in.