Fool's Eye View

[ May 25, 2000 ]

Pensions vs ISAs

By Christopher Spink (TMFEagle)

Great Titchfield Street, London -- Pensions! The very mention of the word strikes fear into many people's hearts. "Have I got the right one?" "Will I have enough to live on when I retire?" All sorts of anxieties and doubts cloud individuals' minds when it comes to thinking about this grizzly subject.

It's hardly surprising then that the most common word used on the popular Pensions discussion board is HELP! Apart from mortgages possibly, this is probably the biggest personal financial problem many people face: how to save money when you're working to live on when you no longer want to work.

Well, it seems that Fools haven't been the only ones pondering these questions recently. The Financial Services Authority (FSA) has just published an occasional paper on "Saving for Retirement -- How taxes and charges affect choice".

This paper asked: "Given a marginal pound to be saved, would an individual be better off putting that pound in an ISA or a personal pension/stakeholder pension?" However, followers of the Pensions board will know this debate has been raging there for sometime.

Threads particularly worth reading are johnfoy's Pension Drawdown vs ISA; the same contributor's More on Drawdown; and jonteague's Yet more Drawdown.

Both Fools and the FSA seemed to have reached the same conclusion.

The FSA states that "despite more generous tax treatment of personal pensions the impact of charges means that basic rate taxpayers can expect no more from an average personal pension than from ISAs with charges which meet the CAT standard. At the same time they lock their money away and lose the flexibility that an ISA offers them".

Whereas a contributor to the Fool has summed up the Pensions message board debate more bluntly, saying:

A basic rate taxpayer might be better off with the flexibility of an ISA; 40% tax relief will make a pension more attractive to a higher rate taxpayer, but they might find a combination of the two routes fits their needs;

If you pop your clogs with loads of money tied up in an annuity, it's all lost;

Annuity rates are falling, so placing faith in them might be a mistake;

A pension fund does have the advantage of stopping you from blowing the cash in a moment of weakness.

So unless you are one of the few people who have the luxury of an old style paternalistic company pension, or defined benefit occupational pension to give its full title, then you might like to consider the ISA route, particularly if you only pay basic rate income tax. Of course the best ISAs will low charge index trackers or self-select ones, which have no Wise interference.

At the end of the day the tricky decision of how to save for your retirement depends on your own circumstances and the products available to you. Below you will find links to a ream of information that might help you decide what to do.

Above all this though, you should not be conned into thinking that retirement can only be done via a pension. That is not the case at all. This FSA report is the first official document to admit this. That in itself is a stab for financial freedom.

Let's finish with these soothing words from one of the report's authors, Paul Johnson, who boasts the amazing title Head of the Economics of Financial Regulation Department, Central Policy for the FSA. He commented: "For many people the tax system is an inadequate incentive for people to save for retirement through a personal pension. For a basic rate taxpayer the tax advantages associated with personal pensions can be more than offset by the high charges and lack of flexibility, especially relative to a CAT ISA."

So forget about Pensions and dream of a happy retirement!

Please post any feedback to the Pensions or Fool's Eye View discussion boards.

Related links

• Ten Steps to Investing Foolishly Step 6 - Pensions, IFAs and Endowments -- the Motley Fool Weighs In!
• Fool's Guide to Pensions
• Fool's Guide to Retirement Planning (Part 5 is called Pension, ISA or both)
• Fool's Guide to ISAs
• Fool's Guide to Annuities
• FSA Occasional Paper: "Saving for Retirement - How taxes and charges affect choice"
• Jon Teague's Totally Questionable Spreadsheet Page comparing perfomance of Personl Pensions vs ISAs

Fool Books
Written by Christopher Spink, the latest Fool book has just been published. It's called "How To Invest When You Don't Have Any Money". Intrigued? Think it's impossible? The book can be purchased at Amazon by following this link.