Individual Savings Accounts (ISAs) and pensions are both great options to include in your investment plan as they offer tax incentives and are a fantastic way to save toward your future. Because of this, though, they also include some restrictions and come with eligibility criteria. While the ideal would be to include both in your financial toolkit, here is a comparison of ISAs and pensions to help you prioritise during financial planning.
This does not constitute advice and advice should be sought in all instances before acting on it.
Tax matters
When it comes to taxation with an ISA, it is actually straightforward. There is no tax relief available on contributions but there is also no tax payable when it comes time to withdraw.
With a pension, taxation is a bit more complex. Income tax relief is provided on eligible contributions at your highest marginal rate. When it’s time to withdraw your funds, 25% can be paid out tax-free and the remaining money will be subject to income tax. Compared to an ISA, there are potential tax reliefs available during contribution and withdrawal.
While your money is invested, the benefits, however, are the same. In both an ISA and a pension, your money can grow in a tax-efficient environment where you won’t have to worry about income or capital gains tax (CGT).
Contribution thresholds
Another area where ISAs and pensions differ is contribution limits.
For an ISA, the maximum amount you can contribute each year is £20,000 a year. You can distribute your contributions across the various types of ISAs, but you must remain under that threshold that is set annually.
When it comes to pensions, there are technically no limits for how much can be paid in, but there are limits to the tax benefits you can receive because of the annual allowance. The standard annual allowance is currently £60,000 for the 2023/24 tax year. But for very high earners, because of tapering, this allowance could dip to as low as £10,000. On top of this, tax relief on personal contributions is restricted to your relevant UK earnings, or a maximum of £3,600 in the tax year in which the contributions are paid.
Employer contributions
Pensions are clearly the winner when it comes to employer contributions as ISAs are only paid into by individuals. Even when employers only offer the minimum contribution, it still provides a significant benefit for employees.
Access to money
When it comes to accessing funds, however, ISA has the clear advantage. You can withdraw funds from your ISA at any point with no tax penalties, which means your money can grow significantly and you can withdraw as needed with no tax consequences.
With a pension, you cannot access your funds until the minimum retirement age. At the moment, that age is 55, but from 6 April 2028, that will increase to 57. There are exceptions if you are in ill health or have a protected retirement age. And when it is time to withdraw your funds, it must be done strategically in order to avoid any unnecessary taxation.
Need help deciding what’s right for you?
These factors are just a few things to consider when determining what to include in your financial plan. There are benefits and disadvantages to both Individual Savings Accounts and pensions, and while it’s best to utilise both in your plan, if you need help deciding which one is right for you, don’t be afraid to seek professional help. The experts at Dental & Medical Financial Services are happy to help you determine what to use and what is most beneficial for your individual needs. Get in contact to get started planning today.