Pension Planning

Pension vs. ISA: How to choose the right product for you

When weighing up your savings options, a SIPP and an ISA will often be among the most attractive. But is one better than the other, and how much will your circumstances drive your decision making?

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Pension vs. ISA: How to choose the right product for you
  • Both pensions and ISAs offer tax benefits.
  • There are several different types of ISAs and pensions.
  • InvestEngine offers a SIPP and an Investment ISA.
  • Their low fees and powerful investment tools make them an attractive option.

FAQs: Pensions and ISAs

  • Why do I pay tax on my pension income?

    The current UK tax rules mean paying tax on your income from pension savings because, when you pay into a pension, you do so before paying income tax. 

    When you make withdrawals from your pension pot, it is then deemed part of your taxable income. However, the amount of tax you do pay will depend on the tax rules at the time.

  • How much is the ISA allowance?

    ISA allowances change from tax year to tax year, depending on the current rules. For 2023/24 you can save up to £20,000 per year across all your ISAs. The allowance is the same for 2024/25.

  • Which is better, a pension or ISA?

    Choosing between a pension or ISA depends on your savings goals, your relevant earnings and your risk profile. They can both be suitable given the right circumstances, which is why it's a good idea to talk with an expert to pick the best course of action for your situation - and any spouse or civil partner. Both a pension and ISA have tax advantages, but both have their limitations which need to be taken into account when picking between them.

Editorial Note: We earn a commission from partner links on Pension Times. Commissions do not affect our writers’ or editors’ opinions or evaluations. Read our full affiliate disclosure here.

When it comes to planning for the future, deciding to open a pension or an Individual Savings Account (ISA) is a crucial choice that can significantly impact your financial goals and retirement savings.

Both options offer their own advantages and disadvantages. Understanding the differences and nuances of each is a key step to making an informed decision, which you need to base on your personal circumstances. To help, we have outlined the pros and cons of pensions and ISAs, explaining key factors such as tax relief, income tax implications, and other relevant considerations. 

Whether you're looking for an ISA, personal pension, or investment account, check out how these compare at Invest Engine and click the button to open your account today!

*Total limit for all ISA types
**Per person for the year 2024/25 tax year
***Per person across all investments, 2024/25 tax year

What is a pension?

A pension is essentially a savings plan for your retirement. As of the 2024/25 tax year, you can start to take pension payments from the age of 55, though this may increase in the future. You can also take out a tax free lump sum from your pension pot from that age, which can be up to 25% of your total pension pot. 

While you will have access to your State Pension, this may not be enough for your retirement, so having a SIPP may be worthwhile, in addition to any workplace pension or pensions you have. The money you save in a pension savings plan can be used to invest in a variety of financial assets so that the pension pot may grow over time - potentially giving you more money in the long run. 

What is an ISA?

ISA stands for Individual Savings Account. It's a tax-efficient savings or investment product, which allows you to save or invest money without having to pay income tax or capital gains tax on any return made. 

There are various types of ISAs:

  • Cash ISA.
  • Stocks and Shares ISA.
  • Innovative finance ISA
  • Lifetime ISA. (You can only open Lifetime ISAs between the ages of 18 and 40.)
  • Junior ISA (only available to those under 18.)

The most popular are Cash ISAs (for cash savings) and Stocks and Shares ISAs (for investments). 

You have an annual allowance allocated to you for ISAs each tax year, currently at £20,000 for the 2024/25 tax year. However, the tax benefits of these products mean you can make withdrawals without increasing your taxable income.

Benefits to opening a pension plan

Saving for a pension comes with the following benefits:

  • Lower income tax.
  • Tax-free lump sum.
  • Variety of investment options.
  • High annual contribution allowance.

Lower income tax

When you pay money into a pension, whatever type of plan you have, you do so before you pay income tax on annual earnings - amounting to pension tax relief. This tax relief is a massive incentive as when you pay your income tax, your bill is lower, helping to maximise your net salary as well as your retirement savings by becoming more tax efficient.

Tax free lump sum

Another appealing feature of paying into pensions is the tax free lump sum you can receive when you start to take your pension. Doing so means you can get a substantial financial boost to use as you wish. You have the flexibility to choose how you manage your finances when you finish working and stop drawing a salary. For instance, you could pay off any debts or mortgage, or go on a cruise!

Variety of investment options

While many benefit from workplace pension schemes, where employers contribute to the pension fund alongside the employee, you may be self-employed or in need of another type of pension plan. If you have a SIPP, you can choose to invest different amounts in different sectors and asset classes, offering flexibility to investing. Within all these options, you still benefit from pension tax reliefs, helping to compound your pension’s growth. 

High annual contribution allowance

You can contribute up to £60,000 a year to your pension and benefit from tax relief. You can still contribute more if you want to, though contributions will have to come from your net income. If you don’t use up all of your allowance, you can carry forward any unused amount from the last three years.

The benefits of opening an ISA 

ISAs are a popular savings or investment product thanks to the following benefits.

  • Tax efficient.
  • Easy access to your money.

Tax efficient

ISAs offer a tax efficient way of saving cash or growing your wealth through investments. With investment ISAs specifically, the money you invest can benefit from better earnings potential, while also being free from capital gains tax. By investing through an ISA, then, you minimise how much tax you pay, leaving you with more money to invest and potentially even more compound wealth growth. 

Access your money at any time

Unlike pensions, ISAs allow tax free withdrawals at any time. It's a flexibility that pensions don't have, which can make ISAs a suitable option for you if you think you may need to access your money before reaching retirement age. 

In comparison, while paying into a pension plan does help you save for your future, you can only access your money at a certain age - currently that’s 55 or over. It's referred to as the normal minimum pension age (NMPA), which the Government sets. From 6 April 2028, the NMPA increases to 57. While there are circumstances where you can take your money earlier, such as if you suffer from ill health or have a protected pension age, a Cash ISA or a Stocks and Shares ISA does not have this limitation.

Advantages to using InvestEngine for your SIPP

If you decide that you want to open a pension, an InvestEngine SIPP is one of several options at your disposal. The provider's SIPPs offer the following advantages:

  • Low cost and fee transparency.
  • AutoInvest features.
  • Large number of ETFs.

In addition to these advantages, remember you benefit from the inherent plus points of making pension contributions - i.e. pension contributions don't qualify for income tax, so you get tax relief of 20-45% on up to £60,000 paid into your SIPP each year.

Low cost and fee transparency

InvestEngine's fees are not only low, the company is also transparent about how they charge fees on SIPPs. At the moment, you'll pay 0.15% for a SIPP with InvestEngine, capped at £200 a year. You can then build your own portfolio, commission free. Or, you can choose a portfolio managed by InvestEngine's experts for a 0.25% fee. Having low fees means that more of your investment returns stay in your pocket, maximising your pension savings.

Large number of ETFs

If you open a personal pension with InvestEngine, you can choose to invest in a large number of ETFs - offering a choice so you can find products which align with your goals. ETFs are popular investment vehicles as they are easy to access and provide instant diversification. They're also substantially cheaper than traditional pension solutions, such as investment trusts. If you don't want to pick your own ETFs, you can leave InvestEngine's experts to build a portfolio for you using them.

AutoInvest and Savings Plans features

InvestEngine has a couple of clever features which makes its SIPP product even more attractive. Firstly, its AutoInvest feature means you stay invested without cash acting as a drag on your returns. AutoInvest also allows one-click rebalancing which helps you stick more closely to your strategy at all times.

Its Savings Plans mean you can pay into a pension from as little as £10, on a weekly, fortnightly or monthly basis. You can set up these transfers to happen automatically from your bank. Again, these top ups allow you to maximise pension savings, little and often, which can really add up over time.

Advantages to using InvestEngine for your ISA

If you want to open an ISA, InvestEngine offers an Investment ISA, which is the same as a Stocks and Shares ISA. InvestEngine's Investment ISA product offers these advantages:

  • Zero ISA account fees.
  • Free transfers.
  • ISA sign up bonus.

In addition to these benefits, like a pension, you would also benefit from powerful investing tools such as AutoInvest, and having a large range of ETF options too.

Zero ISA account fees

InvestEngine's fees are also low for its Investment ISA - just like its SIPP. For the Investment ISA, there are zero account opening fees, ensuring you retain more of your investment returns. Like the SIPP, you could opt for a DIY portfolio and receive commission-free services or you could choose managed portfolios which cost a modest 0.25% annual fee.

Free transfers

As you can open ISAs with a different provider every year, you may find managing them is difficult when you have more than one or two with different companies. Transferring them to one provider can be helpful, but not all transfer processes are the same from one provider to the other. With InvestEngine, you get a straightforward, free service where you only have to fill out a simple form on their website, and their transfer team will handle the rest. Transfers are generally completed within 30 days. Some providers may charge you an exit fee, but this is beyond InvestEngine's control.

Picking between an ISA or pension

Deciding between a pension or ISA requires careful consideration of your individual circumstances and financial goals. It's a good idea to talk to a financial adviser who will be able to talk you through a number of factors in addition to the benefits of a pension or ISA, to help plan for your future. For instance, if you want to retire earlier, an adviser could identify ways to take advantage of the generous tax benefits of both a pension or ISA. They will also take into account whether you are a basic rate taxpayer or higher rate taxpayer, how to make the most of any personal allowance you have, or how to go about estate planning for inheritance tax purposes.

Individual situations always vary, making the decision between a pension and an ISA (or a combination of both) can be tough. That’s why it can be highly beneficial to talk with an expert so you receive personalised, targeted advice. Doing so can minimise the risk that you lose money - which is always a possibility when investing money in financial assets.

When investing, your capital is at risk. Tax treatment depends on personal circumstances and may be subject to change.

Image Credit: Javier Allegue Barros at unsplash

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