Potential pitfalls of the Lifetime Isa – Royal London
By Kirsten Hastings, 14 Jun 16
To be introduced in the UK in April 2017, the Lifetime Isa (Lisa) is intended to incentivise people to save for their first home, their retirement, or both. But research published by the independent Pensions Policy Institute (PPI), sponsored by Royal London, compares the tax-free savings scheme with its international counterparts and highlights some challenges that may arise.
In the US 401ks are workplace pension schemes and Individual Retirement Accounts (IRAs) are private pensions.
Taxation: Both are broadly Exempt – Exempt – Taxed (EET), with tax relief contributions applied to withdrawals.
However, alternative schemes known as Roth IRAs and Roth 401ks are Taxed – Exempt – Exempt (TEE). In 2014, 19.2 million households had a Roth IRA, compared with 31.3 million with traditional IRAs.
Only around half of employers offer contributions to Roth 401ks, as contributions are post-tax and therefore more expensive for employers.
Early Access: Employers can decide the extent to which early access to 401ks is allowed. Some schemes allow loans in cases of financial hardship. Other plans allow people to borrow money for purchasing a house, carrying out home improvements, or other specific purposes.
Individuals are able to borrow from their traditional EET 401k up to the lower of $50,000 or half the value of their fund. However, they must pay the loan back within five years to avoid paying income tax on the withdrawal amount plus a 10% penalty.
Around 40% of people take loans from their 401ks. Borrowers are generally younger with 17% of millennials, 13% of generation X, and 10% of baby boomers having taken loans.
Savers cannot borrow from IRAs.
Investment Strategy: TEE Roth accounts, which do not allow borrowing, tend to have higher allocations to equities than traditional EET accounts, which do allow borrowing. However, this may be related to tax rules requiring minimum distributions in retirement from EET pension funds, but not from TEE pension funds.
Tags: Australia | Canada | New Zealand | Pension | Royal London | Singapore | Steve Webb | US
