How I'm using a LISA to help my baby buy a house…

How best to maximise my savings

I assumed the best thing to do would be to whack my initial lump sum into a high-interest fixed savings account. With the top pick currently paying about 2% on a five-year term, I'd have about £6,520 (including £720 in interest) at the end of the term – but this top payer wouldn't allow me to add the extra £300 monthly savings.

A regular savings account would let me do this, but only offers top rates for the first year. This would mean a lot of ongoing work: opening new accounts and shifting balances to get the most bang for my buck.  

So then I considered individual savings accounts (ISAs) – where you don't pay tax on the interest – as one of these would solve the problem of being able to add to it every month without having to switch accounts. With the current top cash ISA offering 1.31%, I calculated that after 25 years I could have around £112,000 – including roughly £16,000 in interest. 

This would get me a little over the current average London deposit (1.9% over, to be precise), but over 25 years property prices would likely rise substantially more than this. So I ate some more avo toast and continued my quest. 

I'd heard Martin talk about Lifetime ISAs, or LISAs, which replaced Help to Buy ISAs, but as an existing homeowner I didn't see how it could benefit me, and my daughter is way too young to be able to open one herself (you need to be 18). Until I realised that LISAs aren't just for the purchase of first homes; you can also use them later in life for retirement income from the age of 60. And with a highly appealing max Government bonus of £33,000, it had my attention.

As you can imagine, nabbing a wad of free cash equivalent to the average annual UK salary isn't without a few strings attached. Here's how the LISA works:

●    You need to be aged between 18 and 39 to open one.

●     You can put in up to £4,000 each tax year, until you're 50.

●     The Government will add a 25% bonus to your savings, up to a maximum of £1,000 per tax year.

●     The Government keeps paying you the bonus until you turn 50.

●     To keep the bonus, you can only withdraw from the LISA to buy your first home, when you turn 60, or if you are terminally ill.

●     Withdrawals for other reasons have a 25% penalty.

●    So the earlier you start, the more bonus you'll get – if you start at 18 and keep paying in the maximum until age 50, you'd get a free £33,000. 

You can read more about how the LISA works in our guide here.

So if I opened a LISA today, how much could I have in 25 years? 

I am 35 years old, so by the time I can access the cash at 60, I'd have £75,000. This assumes I contribute the maximum £4,000 every year until I'm 50 (LISA rules say you can't add to it between the ages of 50 and 60), and includes a £15,000 Government bonus. 

The £4,000 a year works out at roughly £330 each month, a bit over my £300 monthly budget. But considering my initial £5,800 lump sum is £1,800 over the £4,000 maximum, I had a bit of extra money to play with. 

Then once I hit 50, I can keep my £300-and-a-bit monthly savings habit, and instead put it into a separate top-paying cash ISA or top paying savings account.

Currently the top cash LISA from Moneybox pays 1.4% AER. This rate looks pretty average, but when you consider the 25% Government bonus, things get interesting. After 25 years, when I'm 60, I'd have roughly £136,550. That's a massive £24,065 more than with a regular ISA.

But I'd also seen plenty of analysis about how putting extra £££s into a pension is usually better than the LISA. Even though I wanted to use the cash for my baby's house deposit and not my own retirement, if putting extra £££s was better spent bubbling away in a pension, I wanted to make sure I wasn't missing a trick.

Here's the deal: if you're an employee (rather than self-employed), by far the most efficient way of saving for your own retirement is going to be joining your company's pension scheme. Money is taken from your pre-tax salary and your company matches it up to a certain amount – in my case 5%. So my first port of call was to make sure I was contributing the full 5%. Luckily I already was.

So the question was: if the goal was still to help my baby step on to the housing ladder, would my £330 a month be better spent topping up my company pension or put into a LISA?  

Since pension contributions come from your pre-tax salary, it means the money you put in gets tax relief. If you're a basic-rate taxpayer you make a 20% tax saving, if you're a higher-rate taxpayer you get 40% and if you're an additional-rate taxpayer you get 45%. 

So if you're a higher or additional-rate taxpayer and have any extra money to contribute on top of your regular pension payments, adding this to your pension pot might be a more tax-efficient way than starting a LISA, since the bonus is only 25% (and up to a max of £1,000 a year). 

For me, the LISA wins on flexibility  

If you're looking to help your child buy a house (like me) and considering a pension as the most tax-efficient long-term savings vehicle, you need to be aware when you come to take the money out as a lump sum that only the first 25% is tax-free. After that, the rest is subject to your marginal rate of tax. 

Savings in a LISA have in effect already been taxed, as you're saving from your take-home salary. Because I'm a basic-rate taxpayer (like 92% of my fellow millennials), the Government bonus of 25% essentially reimburses the 20% tax saving I'd make if I stuck my extra £330 in savings into my pension pot. And crucially, the WHOLE amount in a LISA remains tax-free. 

It's important to note that LISA savings do affect your eligibility for benefits – unlike a pension, which isn't counted as savings for means-tested benefits. So if you're planning on using a LISA in retirement you could have to withdraw your LISA savings and live off those until they are below the means-testing threshold.

But surely there’s a catch? 

But what about a stocks & shares LISA?

So here’s what my current projection looks like with Nutmeg: