Cut to the Lifetime ISA withdrawal charge – everything you need to know

As part of its emergency response to the Covid-19 pandemic, the Government has reduced the Lifetime ISA (LISA) early withdrawal charge from 25% to 20%.

So how might that affect you? To answer, I’ll first run through how LISAs work, then look at what the new rules mean in practice.

How LISAs work

If you are a UK resident aged 18-39, you can open a LISA and pay in up to £4,000 a year. The Government will automatically provide a 25% top-up, meaning you could benefit from a £1,000-a-year bonus by saving in a LISA.

Once you have opened a LISA, you will continue to receive the 25% bonus on new contributions up until your 50th birthday.

You can withdraw your money charge-free only if:

• You use the money to buy a first home. The home must be worth £450,000 or less, and you need to be buying it with a mortgage
• You are aged 60 or over
• You become terminally ill

If you withdraw money in any other circumstance, you’ll need to pay a Government-imposed early withdrawal charge.

How the early withdrawal charge is changing

Since the launch of the LISA in April 2017, the early withdrawal charge was set at 25% of the amount taken out. If you were hit by this charge, you'd likely have received less back than you'd put in, even allowing for the LISA bonus.

However, with Covid-19 placing a severe strain on household incomes, the Government has decided to temporarily cut the LISA early withdrawal charge. It currently stands at 20%, making it less punitive for investors to access their money. The aim of the charge is now just to return the Government bonus.

This new, lower charge was announced on 1 May 2020 and will apply to all withdrawals made between 6 March 2020 and 5 April 2021. After this date the Government says the charge will revert back to 25%.

How the lower charge could impact early withdrawals

Let’s say someone saved £5,000 in their LISA (comprising £4,000 of personal contributions plus £1,000 courtesy of the Government bonus). Then, needing the money, they withdrew the full amount without meeting one of the three conditions above – incurring the early withdrawal charge.

Before 6 March 2020, their withdrawal charge would have come to £1,250 (£5,000 x 25%), meaning they paid a penalty of £250 on top of returning the £1,000 bonus.

However, between 6 March 2020 and 5 April 2021 under the new rules, their charge would be £1,000 (£5,000 x 20%), meaning they’ll only be paying back the Government bonus.

Note that the early withdrawal charge applies to your entire withdrawal, including any investment growth or losses as well as your contributions and the bonus. As a result, the charge will be higher if your fund has gone up in value and lower if it has gone down in value.

What happens if I’ve already made my withdrawal and paid the 25% penalty?

If you made an early withdrawal before 6 March 2020, sadly you won’t benefit from the reduced 20% charge.

If you made an early withdrawal on or after 6 March 2020 and have already been hit with a 25% early withdrawal charge, you will receive a refund either to your account (if you still have a LISA open) or directly from your provider.

Find out more about our Lifetime ISA