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Self-invested personal pensions (SIPP) and Individual Savings Accounts (ISA) are wrappers that you can use to shelter your savings and investment from tax.
But which one should you choose? And is there any merit to having both?
Your choice is likely to depend on factors such as how much you want to save and what sort of access you’ll need to your money.
How do SIPPs and ISAs work?
A SIPP is a form of DIY personal pension where, as the name suggests, the investor takes control of where their money is invested by self-selecting the assets within the wrapper.
SIPPs tend to suit more experienced investors who know how and where they want to invest, and who want a broader range of assets and investment options – although there is always the option to seek (and pay for) advice to help in the decision-making process.
ISAs are tax-free savings wrappers. You can put up to £20,000 each tax-year in various kinds of ISAs. There are a range of different types, including cash ISAs, stocks and shares ISAs and Lifetime ISAs.
A stocks and shares ISA can work in a similar way to a SIPP, with investors choosing their own investments (self-selecting) to put within the ISA wrapper.
With both SIPPs and ISAs, investors need to choose a platform or provider to administer their investments within the savings wrapper. Providers will usually offer services to manage an investor’s SIPP or ISA, helping with fund selection, for example. But this is likely to have costs and extra fees.
There will typically be fund management charges and platform fees for both SIPPs and investment ISAs, with the charges varying between providers.
Those with private pension schemes such as a SIPP – in other words, one that is not provided by their employer – stand to have better support after the regulator, the Financial Conduct Authority (FCA) brought in new rules for providers.
These state that private pension providers must offer a default investment option for non-advised pension savers. A default option is offered where the investor has not made any choices themselves about how the money in their pension is invested. A default investment option is deemed beneficial to the pension saver as their money will have greater chance to grow over time, compared to leaving it as a cash deposit.
Providers must also issue a ‘cash warning’ to those with significant and sustained levels of cash in their private pension, to alert them that their cash is at risk of being eroded by inflation.
How does the tax treatment compare for SIPPS and ISAs?
Both SIPPs and ISAs are tax-efficient, but their tax treatment is different.
As a SIPP is a pension, savers get pension tax relief on the money they put in. For a basic rate (20%) taxpayer it means, for example, that for every £80 they put into the SIPP, tax relief (paid by government) will top the contribution up to £100.
Higher rate and additional rate taxpayers can claim even more tax relief (40% and 45% respectively). This makes SIPPs a highly tax-efficient way to save. There is more on pension tax relief in our guide to personal pensions.
You’ll pay no income or capital gains tax on any interest, dividends or capital growth on the money invested in your SIPP. But there could be income tax to pay when you start to take the money out of your pension.
As with other types of personal pension you can take up to 25% from your SIPP as a tax-free lump sum. You’ll then pay income tax on the rest as and when you withdraw it, subject to your income tax status. Income tax is based on your total taxable income, not just your pension. The first £12,570 per year of income is tax free, this is the individual personal allowance.
While there is no tax relief boost on investments going into an ISA, all money within the wrapper grows free of tax. This includes income tax, capital gains tax, plus the interest on bonds or dividend income within the ISA.
When you choose to take money out of the ISA this is also free of income tax or CGT. You don’t need to declare your ISA holdings on a self-assessment tax return.
Lifetime ISAs (LISA) work differently, and there is a government boost to savings. Those aged 18 to 39 are eligible to take out one of these plans, and the LISA can be used to save towards a first home or for retirement.
The LISA, which can be in cash or in stocks and shares, pays a 25% bonus from government on savings up to £4,000 a year up until the age of 50. For example, someone paying the maximum £4,000 a year into their LISA would get a government bonus of £1,000 a year.
The maximum bonus is £33,000, this is if you open an account at 18, and pay in the maximum until age 50.
What about inheritance tax?
When you die any ISA savings will go into your estate for inheritance tax purposes and so there may be death tax to pay on your holdings in some circumstances, depending on the total size of your estate on death.
SIPPs can offer the opportunity to pass on the proceeds to beneficiaries without IHT being applied. But this is only in certain situations, for example if you die before the age of 75 and if the fund is designated to the beneficiary within two years.
The rules around passing on a SIPP after death can be complicated so it makes sense to get independent financial advice around retirement and IHT planning if this is something that is important to you.
How much can I save in a SIPP or ISA?
While you can save up to a maximum of £20,000 per tax year (from 5 April) in ISAs, the limits are more generous for personal pensions, including SIPPs.
You can save or invest up to 100% of your annual income in a SIPP each year and receive tax relief on it, up to the maximum annual allowance for tax relief of £60,000.
The lifetime limit for pension saving of £1,073,100 is set to be abolished from April 2024. But this limit will still be used for setting the ceiling on the maximum tax-free lump sum savers can take out of their pension, which will be capped at 25% of this figure.
What about access to your money?
ISAs are more flexible when it comes to access than a SIPP, with the exception of LISAs.
With a standard cash or stocks and shares ISA, investors can withdraw funds whenever they want, although they will lose the tax-free status once the cash is taken out of the ISA.
Money can be taken out of a LISA at any time, but unless you’re using the proceeds to buy a first home or you’re accessing the money at age 60, investors or savers will pay a 25% withdrawal charge. This is because the LISA is designed as a savings vehicle for home purchase or retirement.
In contrast, the money in a SIPP cannot be withdrawn or accessed until age 55, as is the rule for all personal pensions. This minimum age is set to rise to 57 from 2028.
SIPPs pros and cons
Pros
- tax relief on your investment
- wide range of investment choice
- good option for retirement savings (can’t access money early)
- can be passed to beneficiaries free of tax (in certain circumstances).
Cons
- inflexible: no access until at least 55 (57 from 2028)
- can only withdraw 25% tax free at retirement (other withdrawals are taxed)
- platform and investment charges.
ISAs pros and cons
Pros
- savings and investments always grow free of tax
- no tax on withdrawals
- flexible – access the money at any time.
Cons
- no tax relief on money going in (except government bonus on LISAs)
- maximum £20,000 investment or saving per year
- investment and platform/provider charges.
Can I invest in a SIPP and an ISA?
Yes you can invest or save into both a SIPP and an ISA, there are no rules or restrictions on this. Investors just need to stay within the individual savings limits and annual limits for each respective savings wrapper.
Many people save in both as SIPPs and ISAs have different benefits and purposes and can suit different investor goals.
SIPP vs ISA, which is best for retirement planning?
As we have seen, there are advantages and disadvantages to saving in both types of investment wrapper. Whether an ISA or SIPP is best for your long-term savings and retirement planning will depend on what you need from the product.
While a SIPP offers more generous tax relief, which can boost your overall savings pot, it can’t be accessed until age 55 (this is rising to 57 in 2028) – and it may attract income tax when it’s paid.
Savers looking for more flexibility might prefer an investment ISA, where funds are always tax-free and there are no restrictions on access, although the maximum annual savings are lower than pensions at £20,000 per year.
A Lifetime ISA might suit some savers, provided they are eligible to open an account, as the government pays a 25% bonus on savings up to £4,000 a year until age 50. If the LISA is used for retirement planning it can’t be accessed until age 60.
Some investors may choose to have both a SIPP and an investment ISA as complementary products working towards their retirement savings goals. The ideal of having both is that it offers greater flexibility so you can access money at different times and in different scenarios.
Frequently asked questions (FAQs)
Is there a limit on savings in a SIPP?
You can save up to 100% of your income each tax year up to £60,000 and receive tax relief on your contributions at your highest level of income tax.
You can pay more than this into your pension but you’ll incur tax on the contributions over and above the £60,000 limit.
Pension tax relief of 25% is automatically added to savers pension pots. Higher rate and additional rate taxpayers will need to claim the extra tax relief on their pension savings through the self assessment tax system.
Pension savers can carry forward up to three years of unused pension allowance and get tax relief on it, but this is also subject to certain terms and conditions and maximum limits.
For example, you can’t earn tax relief on contributions in excess of your annual earnings in any tax year.
Can I switch money from an ISA into a SIPP?
You can move money from an ISA into a SIPP and the contribution into your SIPP will receive pension tax relief, subject to the annual limits and allowance.
Which has the higher charges, ISA or SIPP?
The fees and charges on your investment will depend on a range of factors including the platform or investment provider you use, the size of your portfolio and investment holdings and the underlying assets of funds that you choose.
Investors can keep costs down by shopping around for lower cost investment platforms and providers and opting for passive funds, such as index tracker funds and exchange traded funds, which tend to have lower annual fees.
