Pension alternatives – what are the options?

There are quite a few options that you could consider for your retirement savings.

The most common method of saving for retirement is contributing to workplace and/or personal pensions, but pensions are not the only choice, and sometimes the combination of slow growth and high fees compel some people to consider alternatives.

Significant numbers of people do look at alternative ways to fund their retirement. Maybe they don't want to lock money away in a pension, they believe that they can get better returns elsewhere, or they are not fully aware of the benefits of a pension.

Property

Many people choose to invest in property rather than contributing to a pension. You may see buy-to-let properties as a good pension alternative, with the potential to live off rental income in retirement. The problem with this idea is that when you are a landlord you will still need to work. 

You will be responsible for making sure tenancies are correctly managed, and you will have a legal responsibility to ensure the properties are maintained.

Continuous costs in maintaining properties can reduce the income potential.

You may be thinking about paying off a buy-to-let mortgage through rental income. Since 2020 you can no longer deduct any mortgage expenses from your rental income to reduce your tax bill, and landlords are no longer able to offset rental income against mortgage repayments.

You also need to consider the tax implications of selling the property during retirement, you will need to pay capital gains tax if you are selling a property that you have not lived in.

Another alternative could be to invest in commercial property through a self-invested personal pension, as you will have the advantages of both tax relief and investment gains.

Individual Savings Accounts (ISAs)

ISAs are savings accounts that have tax-related benefits. The annual ISA allowance for the 2023/24 tax year means that you can save up to £20,000 per year into your ISA accounts, you don’t pay tax on the money you save, and you don’t pay tax or capital gains tax when you withdraw it. However, a big disadvantage to pensions is that you do not get the tax relief that you would get with a pension.

ISA accounts offer a variety of different access levels; you can choose from easy access accounts or longer fixed term accounts that may offer better interest rates. 

There are 4 types of ISA:

• Cash ISAs
• Stocks and shares ISAs
• Innovative finance ISAs
• Lifetime ISAs

 

Lifetime ISAs (LISAs)

LISAs were developed specifically for younger people looking to save for their first home, their retirement or both.

You can only open a LISA if you are between the ages of 18 and 40, and you can save up to £4,000 per year, you also receive a 25% government bonus, the total bonus is capped at £1,000 per year. LISA contributions count as part of your annual ISA allowance.

You can save into your LISA up to the age of 50 after that you cannot make any more deposits, however your savings will continue to earn interest and grow.

You will be able to access your savings for free if you take out a mortgage to buy your first home or when you reach age 60. You can withdraw your funds as a lump sum or gradually, withdrawals are tax free.

If you withdraw your savings before age 60 for any reason apart from for your first mortgage deposit, you will need to pay a 25% penalty, instantly wiping out the government bonus, and you could also lose some of your own savings as well. The 25% bonus does appeal to people looking to retire, but it’s not necessarily a better option than a pension.

The Enterprise Investment Scheme (EIS)

If you are more adventurous and willing to take a bit more risk, you may also consider EIS and SEIS investment funds or Venture Capital Trusts, all of which offer 30% tax relief on investments and are free from capital gains tax if held for 5 or 3 years.

EIS investment funds allow individuals to invest in early-stage businesses that have the potential of significant growth and could deliver very attractive returns for investors. 

They can be higher-risk and harder to sell when you require the funds, and should only represent a small part of an overall portfolio.

The EIS has an annual allowance of £1,000,000 and offers 30% tax relief on investments, they are also free from capital gains tax as long as the investment is held for five years. 

Venture Capital Trust (VCT)

A VCT is a tax-advantageous investment scheme designed to encourage investment in small, high-risk, and usually early-stage companies. VCTs are publicly traded companies that invest in a portfolio of small businesses, providing crucial capital for growth. 

They can be higher risk and can be harder to sell when you require the funds, and should only represent a small part of an overall portfolio.

VCTs have an annual allowance of £200,000, and they offer 30% tax relief on investments, they are also free from capital gains tax as long as the investment is held for three years.