Give Your Lifetime ISA All The Love Free Money Can Buy

A few months ago, I was grabbing a quick lunch with one of the analysts on my team.  His name was George and he is arguably one of the top performers I’ve come across in my career. 

As we stood in line to pay for our Pret sandwiches, George was trying to milk me for intel on the upcoming analyst bonuses.

Of course, predicting investment banking pay is a bit like trying to beat the market with active investing.  You can try all you want yet you will fail and walk away disappointed. 

Therefore, our conversation quickly turned to what George was going to do with the money, whatever it turned out to be. 

As he rattled off a few possibilities (I distinctly remember yacht week being mentioned), I interrupted him with a more practical idea and suggested he puts £4k in the Lifetime ISA.

What followed was an eye-opening discussion for both of us. 

It was eye-opening for George because as it turns out, he had no idea what a Lifetime ISA was. 

And it was eye-opening for me simply because I was dumbfounded that a finance professional would be ignorant about one of the best wealth building vehicles of all time. 

Once back in the office, I did the rounds with the other junior bankers on my team.  The statistics were dismal – just two of the nine knew what a Lifetime ISA was. 

So if you are one of those people who haven’t yet heard of a Lifetime ISA – or doesn’t understand how it works, please read on.  I promise it will be worth your while. 

What Is A Lifetime ISA?

A Lifetime ISA is a government scheme designed to encourage people to save for their first home or retirement.

In some ways, it is very similar to a regular ISA.  You can use it to invest in both cash and shares.  Any interest income and capital growth on investments held in your Lifetime ISA are free of tax.    

When you withdraw the money, it’s also 100% tax-free. 

However, unlike a regular ISA, the Lifetime ISA has some very distinct features and advantages.

You Get A 25% Bonus On Your Contributions…

That’s right.  The government will top up whatever contributions you make to the tune of 25%.  The bonus is typically credited to your account in four to nine weeks after your contribution.    

The maximum annual contribution you can make is £4,000 which means you can get up to £1,000/year in free money.

Do remember that your total ISA contribution remains at £20k.  So if you’ve contributed £4k to your Lifetime ISA, you only have $16k of contribution room left in your ISA for that tax year. 

…But There Is An Age Limit

Given the massive intergenerational feud going on at the moment, its no surprise that the Lifetime ISA was designed with younger savers in mind. 

You can only open it if you are over 18 and under 40.   However, once you’ve opened it, you can keep contributing (and getting the bonus) until you turn 50.

In other words, if you are about to turn 40, you need to open a Lifetime ISA NOW.  

Even if you only contribute £1, it helps keep your options open for the next ten years.

You Can Get Up To £33k In Free Money…

That’s right.  If you open a Lifetime ISA when you turn 18 and contribute the maximum £4k every year, the government bonuses will add up to £33k over the years.

…But You Can Only Withdraw When You Buy Your First Home Or Turn 60

As with anything that has to do with the government, there is a catch. 

The money in your Lifetime ISA is earmarked to help you do one of two things:

  1. Buy your first home. It has to cost £450k or less and your Lifetime ISA needs to have been open for at least a year for you to use it
  2. Fund your retirement. You can withdraw the money in your Lifetime ISA as soon as you turn 60.  Once you do, there are no restrictions on the timing and amount of withdrawals

Remember that the two options above aren’t mutually exclusive. 

You can use the money in your Lifetime ISA to buy your first home, then continue using the account to save for retirement.

And What If I Don’t?

You are welcome to use the money in your Lifetime ISA for other purposes but you will need to pay a penalty of 25% on the amounts you withdraw.

This is designed to be punitive.  If you put in £4k, get a £1k bonus and then withdraw your money, you will be left with £3,750. 

That’s a 6.25% penalty on your original £4k investment.

But I’m Not A First Time Home Buyer

First of all, congrats on owning a home!  Secondly, unless you expect to come into a major windfall when you turn 60, contributing to a Lifetime ISA could still make a lot of sense due to the 25% bonus. 

This is subject to some caveats.

Which Caveats?

Unless you are a self-employed taxpayer in the basic (20%) tax bracket, contributing to a pension will always be more advantageous than a Lifetime ISA.

See below is an illustration of how workplace pension contributions lift your net worth.

pension pot wealth creation

As you can see, as a basic rate taxpayer, you already get a 25% uplift from the government on your workplace pension contribution (i.e. you contribute £80 and get £20 in the form of a tax break).

Your employer will then match your contributions to the tune of another £60.  This means your £80 contribution has doubled to £160. 

Even though your workplace pension is subject to some tax on withdrawal, the 100% boost to your contribution far outweighs the 25% bonus on the Lifetime ISA.

However, if you are a self-employed basic rate taxpayer contributing to a SIPP (i.e. you don’t benefit from employer matching), you are better off contributing to the Lifetime ISA. 

This is because withdrawals from the LISA are 100% tax-free.

Anything Else I Need To Know?

Yes.  If you have a long-term investment horizon and decided that the Lifetime ISA is right for you, focus on using it to invest into a low-cost stock market index tracker. 

After all, if you have the benefit of time it’s nearly impossible to beat passive stock market investments made through tax-efficient vehicles

Got this far?  You are now well-prepared to take advantage of one of the most powerful wealth-building tools available in the UK. 

Happy investing!

Readers, do you have any other Lifetime ISA questions not covered above?  Feel free to leave a comment below to get an answer. 

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Banker On FIRE is a London-based M&A (mergers and acquisitions) investment banker.  I am passionate about capital markets, behavioural economics, financial independence and living the best life possible.

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14 Comments

  1. Thanks for this post – I’ve been thinking about opening a Lifetime ISA but wondering whether it’s a good idea in my case.
    I‘m from another country and only moved to the UK 2 years ago (I‘m 26). Although I‘m planning on staying for another few years, I‘m not sure whether I will be here longer term or whether I‘ll buy a home here. What would happen to my LISA if I moved away? Could I still access the government money at 60? I haven‘t found any conclusive answers on this.

    • Kathrin, you have to be a resident to open a Lifetime ISA (with some limited exceptions – see here https://www.gov.uk/lifetime-isa)

      As I understand it you do not need to be a resident to access the money and the government bonus when you turn 60. As you can imagine, quite a few Brits tend to head south at that age! I certainly plan to be one of them 🙂

          • They replied to say that if I move away, I can no longer contribute and receive the government bonus. However, I can keep my past contributions and the top-up from previous years in the LISA until I‘m 60 and then withdraw into any UK bank account. Sounds like it‘ll be worth it to open one in my situation. Thanks again for the article, it has made me reconsider.

          • Thanks Kathrin, so in line with what we assumed but great to have an official confirmation.

            Think it’s definitely worth taking advantage of the opportunity to get some free money from the government. It usually goes the other way 😁

  2. Interesting post. Thank you.

    I wonder if its with opening a LISA in my case. We will be FTBs in our late 30s but are looking at properties over 450k (thanks to London’s crazy house prices…). We’re planning to buy soon once the property market returns to normal post Covid (assuming we still have our jobs!).

    I wonder if its better for us to continue to maximise our cash ISAs and workplace pensions in the meantime so we can focus on growing our already sizeable deposit.

    • I hear you with those London house prices! A deposit here will pretty much buy you a house outright in many other places.

      As a general rule of thumb, a workplace pension beats a LISA as you get both the tax break and the employer match, so your strategy sounds right to me.

      Good luck with the house hunt!

  3. the 1k bonus applies from age 18 and 49(and 364 days), so the max bonus is 32k not 33K?
    Or am I missing something?

    Thanks

    John

    • Interesting technical question!

      Answer is that it depends on when you are born. If you are born on April 6th, you will only walk away with £32k. If you are born on let’s say August 6th, you’ll be able to claim the bonus in 33 distinct years (i.e. you can contribute another £4k on April 7th of the year in which you turn 50 and still get the bonus)

      Let me know if that makes sense.

  4. I was wondering whether LISA is actually worth it – many of my colleagues (high / additional tax bracket) prefer to max out ISA then take a stab at current + previous years pension allowance.

    The 1k bonus sounds promising but house prices in London are nuts and having the money locked in until retirement is not appealing. (even tough you could argue the same with pension!)

    • Contributing to a pension is ALWAYS more advantageous than a LISA unless you are a self-employed, basic rate taxpayer.

      Beyond that, it’s the choice between ISAs and LISAs. That one basically boils down to whether you want to retire early (go with ISAs) or think you will only retire in your late 50s (likely that LISAs better option here).

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