Protecting a Balanced Portfolio
SIPP’s versus ISA’s
Individual savings accounts (ISAs) and
self-invested personal pensions (SIPPs) are both tax-efficient wrappers that
can be used to save money for retirement.
Retail bonds with more than five years to maturity are permitted to be held in either account type, and this article
explains some of the key features of each.
ISAs are useful
wrappers that can either be used as a general savings vehicle or in retirement
planning with the benefit that money can be accessed at any time; SIPPs are similarly attractive to UK tax payers,
but the money in your plan cannot be accessed until your 55th birthday.
Both SIPPs and ISAs offer a wider
choice of investments and greater flexibility than an average pension, giving
investors the opportunity to achieve better returns if they make the right
choices. However, there are some important differences between the two
vehicles, which are set out below. By
delivering guaranteed returns, retail bonds add a degree of certainty and
income to a balanced portfolio.
Tax reliefs
Ordinarily
income tax is payable on income from your investments, and capital gains
tax is due on any growth in the value of those assets. Both ISAs and SIPPs
allow you to protect your savings and investments from these taxes.
SIPPs come with the
additional benefit of a tax top-up on cash subscriptions, at the rate of 20 per
cent, or 40 per cent for a higher-rate taxpayer.
Thus, £800 saved into a SIPP is generously topped up by the government to
£1,000 (essentially giving you back the 20 per cent tax you would have paid on
the £1,000). Higher-rate taxpayers can claim back an additional £200 through a
self-assessment form
ISAs don’t give you
this benefit, but they do have one tax advantage over SIPPs. You don’t have to
pay tax on money you withdraw from your ISA, whereas the taxman treats income
that comes out of a SIPP in the same way as any other income, except for a
tax-free lump sum of up to 25 per cent of your entire SIPP pot that you can
claim at age 55.
It’s likely that
for most investors, SIPPs will work out as more tax-efficient, especially for
higher-rate taxpayers, with the caveat that access to these benefits may not be
immediate.
Returns
A
cash ISA will give you an
interest rate of around 2 per cent, based on current offerings, whereas the
return from a self-select stocks and shares ISA will obviously
depend on the success of the investment strategy employed.
The return from a
SIPP will equally depend on your investment decisions, but with the kicker of a
20 per cent tax top-up; every £800 you pay in will automatically turn into
£1,000, which you could see as an instant 25 per cent return. Virtually no
investor will make a gain like that from stock picking.
Contributions
Far more can be
paid into a SIPPs than an ISAs.
The annual ISA
allowance for 2013/14 is £11,520. Savers can allocate up to £5,760 to a cash ISA,
while the remainder can be placed into a stocks and shares ISA.
Up to £50,000 a
year can be subscribed to a SIPP (or 100 per cent of your annual income,
whichever is smaller) and even if you're not a taxpayer, you can put in a
maximum of £2,880 a year and still get the tax top-up of 20 per cent, giving
you £3,600.
Access
ISAs can be used as
an emergency fund, with savings not locked away for the long term and not taxed
as they’re withdrawn. SIPPs cannot be accessed until you turn 55, although this
can be an advantage if you don’t trust yourself to leave the money alone until
you retire.
ISAs are considered
a flexible and portable alternative for retirement planning, whereas SIPPs
trade off lack of instant access against greater tax efficiency.
A balancing act
Broadly, SIPPs are more tax-efficient but ISAs provide
instant access and portability.
However, in
practice, ISAs and SIPPs are not mutually exclusive. A mixture of saving
through SIPPs and ISAs will be most appealing to the majority of investors, and
this should enable you to manage both medium-term and long-term savings.