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Please note that tax, investment, pension and ISA rules can change and the information and any views contained in this article may now be inaccurate.

We look at the range of tax-efficient savings vehicles
Thursday 06 May 2021 Author: Tom Selby

I’m 37 years old and have a pension worth £500,000. The decision by the Government to freeze the lifetime allowance means I’ll be hitting the limit even sooner than I previously thought. What are the alternative savings options open to me?


Tom Selby, AJ Bell Senior Analyst says:

For those who are eligible and concerned about the impact of the lifetime allowance freeze at £1,073,100, Lifetime ISAs offer a useful retirement saving alternative. Subscriptions are limited to £4,000 a year, with the Government adding a 25% top-up to money paid in (up to a maximum of £1,000 a year). Once opened, you can keep receiving this 25% bonus on new money deposited in a Lifetime ISA until your 50th birthday.

Although this bonus isn’t as generous as higher or additional-rate pension tax relief, it is clearly better than having no upfront savings incentive at all.

Furthermore, withdrawals are tax-free from age 60 or if the money is used towards the deposit on a first home worth £450,000 or less, although withdrawals in any other circumstances (apart from terminal illness) will be hit with a 25% Government charge.

As you are below age 40, you might want to consider opening a Lifetime ISA – even if it’s just with a notional amount – so you have the flexibility to benefit from the 25% bonus until age 50.

Stocks and shares ISAs are another tax-efficient vehicle to consider, offering tax-free investment growth and withdrawals. Subscriptions across all ISAs (including the maximum £4,000 put into Lifetime ISAs) are capped at £20,000 a year.

General investment accounts are also worth considering. While they don’t allow tax-free investment growth, they do allow you to invest in similar assets to ISAs and SIPPs and take advantage of things like your annual capital gains tax and dividend allowances.

Beyond these mainstream vehicles, there are other products designed to encourage people to invest in certain types of companies.

Individuals aged 18 or over can receive income tax relief at 30% on investments of up to £200,000 a year in newly issued ordinary shares in venture capital trusts, with relief given via a reduction in your income tax liability.

For example, if you had an income tax liability of £10,000 and invested £20,000 in VCT shares, the tax relief of £6,000 (30% of £20,000) would be deducted from the tax bill, leaving you with £4,000 to pay. These shares need to be held for at least five years to qualify for income tax relief.

Dividends from VCTs are also tax-free (as long as the original investment was made within the permitted maximum of £200,000) and there is no capital gains tax to pay when you dispose of your shares, regardless of how long you owned them.

Enterprise Investment Scheme products also offer tax relief of up to 30% on qualifying investments, with a significantly higher limit on investments of £1 million in a tax year.

Income tax relief is applied in the same way as for VCTs. Any disposal of shares at a profit is usually exempt from capital gains tax, provided the shares have been held for three years. Income tax or capital gains tax relief may also be available for losses on disposals.

A third alternative, Seed Enterprise Investment Scheme operates in a similar way to EIS, but with income tax relief given at 50% on qualifying investments up to £100,000 in a tax year. Again, there may be no capital gains tax payable when you sell the shares as long as you have held them for at least three years.

Both SEIS and EIS investments allow investors to defer chargeable gains on any assets by reinvesting the gains in shares in qualifying companies, potentially allowing people to reduce their overall tax liability.

These tax incentives – for VCTs, EISs and SEISs – are specifically in place to encourage people to invest in smaller, early-stage, and therefore potentially riskier, companies. As a result, only certain companies can qualify.

Any investor considering going down this route should be mindful of the fact companies that qualify for these reliefs are likely to be high risk. You should also do your own homework or speak to a regulated adviser to check the impact investing in schemes like these will have on your overall tax position.

Please note, we only provide information and we do not provide financial advice. If you’re unsure please consult a suitably qualified financial adviser. We cannot comment on individual investment portfolios.

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