By Mike Penny, Wealth Consultant at Simplify Consulting
In the 2024 Budget, among the big-ticket news, was the decision by Rachel Reeves to leave ISAs untouched.
Now only two months on, the Treasury Select Committee is asking for evidence to support the continuation of Lifetime ISAs (LISAs).
Within the middle of the last decade, the ISA product landscape experienced several big changes, including the ‘New ISA’ (NISA) rules of 2014, followed by the establishment of the ‘Help to Buy ISA’ (which was later closed), ‘Lifetime ISA’ and ‘Innovative Finance ISA’.
However, since this period, there have been relatively little changes that impact consumers, including to subscription limits. The LISAs subscription limit specifically has remained unchanged at £4,000 since the products inception and has been frozen until 2030 as part of the most recent budget.
The lack of movement of subscription limits, particularly during the recent period of high inflation has restricted the real value of ISA savings. Though this has been useful for the government’s tax receipts, the real value consumers can subscribe to a LISA today is £1000 less when LISAs were announced. Furthermore, the real value of the total yearly subscription limit has depreciated below the 2014/15 subscription amount of £15,000. Whilst given the fiscal constraints of the last few years, if the wider ambition is to encourage savings and investments, continuing to freeze these limits will prove to be counterproductive.
No surprise
The attention of the Treasury Committee on the LISA specifically is perhaps no surprise. You would be hard-pressed to find someone who doesn’t support the central tenet of ISAs as a product; however, the complexity and variations of ISAs have grown over the last 10 years.
The primary objective of the Lifetime ISA is to provide value to those looking to buy their first home, which has become increasingly difficult as house prices have continued to rise. It has solved some problems of the Help to Buy ISA, including a higher limit on the purchase value, increased subscription limits and improved flexibility on when subscriptions can be made.
Although there are drawbacks that can make LISAs unattractive to consumers. There is a 25% withdrawal charge if the LISA rules are not followed, i.e. if funds are not used to purchase a property and withdrawn prior to the account holder turning 60. Fundamentally resulting in the individual getting back less than they invested. Consumers are also capped at £450,000 when purchasing a property and this has not been adjusted since the inception of LISAs. Though the majority of first-time buyers would not exceed this cap, additional conditions like this can dissuade individuals from opening a LISA.
In addition to house price purchases, LISAs can also be used to contribute towards pension savings, which can be useful for those who do not qualify for a workplace pension. It is interesting that one of the questions raised by the Committee is whether access should be restricted to this group. If this is the decision made, then LISAs will effectively become a pension product rather than an ISA product.
Simplification
The wider challenge for the committee to decide is whether ISAs should be simplified. It is readily known that uncertainty leads to indecision and in the same light, the current complexity of the ISA landscape is causing an unnecessary barrier for consumers. If the Treasury is not clear on the purpose of the different types of ISA, how can consumers be?
LISAs are often opened without advice and given their current complexity, consumers saving into a LISA would commonly form part of the advice gap. In the previous tax year, nearly 100k of individuals withdrew funds from lifetime ISAs incurring a total of £75.2m in charges. The FCA should therefore consider bringing them in scope of targeted support, with the aim to deliver better outcomes for these consumers.
Where consumer don’t understand the benefit and drawbacks of an ISA, they are more likely to not save into any at all. Therefore, to benefit consumers – updated, and future proofed ISA products need to be provided, with more clarity and simplicity that allows consumers to choose the best product for them.
Simplifying ISAs will also be of benefit to product providers who can reduce system complexity and improve the efficiency of their processes, whilst ultimately understanding the target market for each ISA.
Next Steps
There is a long standing need to look again at ISAs, and whilst the scrutiny on the LISA is welcome, it should only be a first step towards more wide-reaching review of ISAs in general. The removal of the LISA will impact the current group of over ¾ of million investors, and any changes should be carefully considered. If the LISA is to continue then there are certainly improvements that need to be made.
The Treasury therefore need to review the wider ISA landscape and consider:
· The purpose of each type of ISA, including growing investment in the UK;
· Clear distinctions between the types of ISA, so that consumer can easily identify their benefits;
· Abolish unnecessary ISA rules that can dissuade consumers from investing;
· ISAs to be in-scope of targeted support;
· The viability of cash ISAs for long term investment; and
· Regular reviews to keep financial limits more aligned with price changes and or inflation.
ISAs in general have been a huge success since they were first introduced, and the government should consider them an important vehicle to encourage more investment in the UK.
