SIPP vs. ISA: What are the differences?

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Unsure whether to put your money in a self-invested personal pension (SIPP) or an individual savings account (ISA)? Both are tax-efficient ways to save, but there are important differences between them. In this article, we’ll explore how each account works, the advantages and disadvantages of an ISA vs. SIPP, and which might be suitable for your money goals.

The information provided here is for informational and educational purposes only and does not constitute financial advice. Please consult with a licensed financial adviser or professional before making any financial decisions. Your financial situation is unique, and the information provided may not be suitable for your specific circumstances. We are not liable for any financial decisions or actions you take based on this information.

A SIPP, or self-invested personal pension, is a type of pension that lets you decide what to invest in, including shares, funds, and trusts. You can manage these yourself or leave it to a professional.

The key features of a SIPP:

• You can contribute up to £60,000 gross (the current yearly allowance) and get a 20% government top-up as tax relief. This depends on your income tax bracket; higher-rate taxpayers can claim back even more through their self-assessment tax return.

• Any growth on the investments is free from income and capital gains tax.

• Money in a SIPP is locked away until age 55 (rising to 57 in 2028), so they are suitable for saving for retirement. 

• When you retire, you can take up to 25% of your savings pot tax-free, and the rest is taxed as income.

An individual savings account (ISA) is a way of saving or investing money that is considered highly tax-efficient. There are several types of ISAs:

• Cash ISA. Similar to savings accounts, cash ISAs offer tax-free interest on your money.

• Stocks and shares ISA. Like a SIPP, you can invest in various assets.

• Lifetime ISA (LISA). Funds you save in a LISA must be used for saving for your first home or retirement. The government gives a 25% bonus on contributions up to £4,000 per year.

• Innovative finance ISA. Peer-to-peer lending for potentially higher returns.

Any earnings you make on your savings or investments are free of tax, including income tax and capital gains tax. You can contribute up to £20,000 each tax year across all your ISAs. You can also withdraw your money whenever you need it without paying tax (rules on this may differ for some types of ISAs).

SIPPs and ISAs are both tax-efficient in their own ways: with a SIPP, it’s in the form of the upfront government top-up on your contributions. With an ISA, you don’t get the generous bonus on the money you save, but you do get tax-free withdrawals. 

The other key difference between a SIPP vs. ISA is when you can access your funds and how. A SIPP is designed as a retirement savings vehicle, whereas ISAs typically let you use your funds before that time.

The table below shows a brief overview of the main differences between a SIPP and an ISA:.

There is also a third option: the lifetime ISA (or ‘LISA’), which combines features of a SIPP and ISA. The funds must either be used for buying your first home or saving for retirement, and the government will pay out a 25% bonus on contributions of up to £4,000 per year. Unlike typical ISAs, you cannot withdraw your funds unless you are using them for retirement at the age of 60 or for your first home. This can be an ideal middle ground for individuals who are saving for one of those two purposes.

We’ve put together the main pros and cons of both options, but reading up on the specific ISA you’re interested in can help you decide.

Pros and cons of SIPPs

Pros:

• SIPPs stand out thanks to the tax bonus. As a basic-rate taxpayer (20%), if you put in £800, the government will top it up to £1,000. There is potential for significant growth in your retirement savings, but of course this isn’t guaranteed.
• You won’t have to pay income or capital gains tax on any investment growth in a SIPP.

• As with a workplace pension, you can take up to 25% of your pension tax-free when you reach retirement.

• Whether you prefer stocks, shares, trusts or bonds, SIPPs offer a wide variety of assets that you have control over. This is considered particularly important when investing, as you can manage risk more easily by diversifying your investments.

Cons:

• Money in a SIPP is locked away until you reach age 55 (though this may change). You’ll only be able to access your money before then if one of the exceptions applies to you.

• Those who are new to investing may not feel confident knowing which investments to choose and how to manage them within a SIPP. Beginners might prefer to use a financial adviser or wealth manager to get the most from their SIPP.

• Investing is never without risk. There’s no guarantee that you will make a return on your investment.

Pros and cons of ISAs

Pros:

• Any gains you make on your savings in an ISA are tax-free.

• Generally speaking, ISAs let you withdraw your money tax-free whenever you need it.

• ISAs are versatile. Whether you are saving for a deposit on a home or building an emergency fund, it’s up to you what you do with your savings.

• There are various different types of ISAs to suit your needs. Cash ISAs may be a good fit for those who prefer safe, lower-risk savings options. Stocks and shares ISAs can be ideal for those willing to take on higher risk for the potential of greater returns.

Cons:

• Unlike SIPPs, the money you pay into an ISA doesn’t get a tax relief boost.

• ISAs are generally less effective for long-term savings goals like retirement savings (unless you opt for the LISA). The annual ISA allowance can be fairly limiting, as you miss out on the compound growth that comes with saving long term. For the same reason, ISAs may be unsuitable for those with lump sum savings.

• The interest rates on ISAs are not always as competitive as other types of savings accounts.

Deciding between a SIPP or stocks and shares ISA depends on your specific circumstances. SIPPs generally offer a broader range of investment options, but you can also choose to invest in the same fund for both, for example an index fund. The key difference with a SIPP vs. a stocks and shares ISA is that your money is locked away until you’re at least 55. This can make them more suitable for long-term saving, particularly for retirement

In contrast, stocks and shares ISAs give you more flexibility. You can access your money whenever you need it, so they may be worth considering if you think you might need your funds before retirement. However, the valuable tax bonus of a SIPP can be hard to ignore if you don’t need early access to your money. Getting in touch with a financial adviser can provide helpful input tailored to your situation.

Regardless of the option you choose, it’s worth checking that you have an emergency fund in place for sudden expenses such as a car repair or job loss. That way, you have the funds at hand and are prepared for the unexpected.

Deciding whether to invest in a SIPP or ISA ultimately depends on your personal situation and financial goals. When making your decision, it can help to ask yourself a few questions:

• How much are you planning to invest? The tax-free limits are a big factor here. ISAs allow up to £20,000 of tax-free savings per year, but a SIPP could be better if you’re investing a lump sum that would push you over this limit. If you’re saving a bit each month from your disposable income, an ISA might work better.

• What are you saving for? Are you focused on retirement or something else? SIPPs are ideal for long-term retirement savings, especially if you don’t need access until you retire. However, if you’re nearing retirement or want to keep the option of early retirement, an ISA could offer easier access to your savings.

• How comfortable are you with risk? While stocks and shares ISAs can offer higher returns, they’re not guaranteed. If you prefer a guaranteed return, a fixed rate cash ISA or fixed rate bond might be more suitable.

If you’re still unsure whether a SIPP or ISA is right for you, a financial adviser can look at what you’re hoping to achieve with your money and guide you in the right direction.

Yes, you can. You don’t have to decide between a SIPP vs. ISA. Provided you are 18 or over, you can open both accounts, and, indeed, many people use both to make the most of their savings. An ISA is generally suitable for medium-term goals, offering tax-free access to your money when you need it. At the same time, a SIPP can help you build a larger retirement fund with tax benefits. You would just need to take care that you don’t exceed the annual contribution limits for each account.

Opening both would also prevent you from putting all your eggs in one basket, as you can take a diversified approach by spreading your savings across the two products. This can make sense from a risk point of view, too. Government rules on SIPP or ISA tax benefits could change in the future, so diversification can help protect your money.

A safer way to save, whether for retirement or other goals, is by opening a savings account, especially one offering competitive interest rates. You won’t be at risk of losing your savings, as the Financial Services Compensation Scheme (FSCS) protects deposits into savings accounts offered by UK-regulated banks and building societies. 

And it’s worth remembering that, thanks to the personal savings allowance, basic rate taxpayers can earn up to £1,000 per year tax-free. With a variety of account options, from easy access savings accounts to fixed rate bonds, you’re sure to find an option to suit you. Register now for free to get started.