How I'm using a LISA to help my baby buy a house…
Before I had a baby I was unrivalled in my money idiocy. I'd never switched hairdressers let alone bank accounts, and the only thing I'd ever saved was room for dessert. But as soon as I gave birth to my daughter, I knew I had to change. My new job was to do my utmost to give this tiny human the best possible start in our big scary world. And as a Londoner, there is little scarier than the prospect of housing.
Right now the average deposit for a first-time buyer in London is an eye-watering £109,885, according to Halifax. And while many of these buyers undoubtedly work hard to scrimp and save, it's no secret that more than a few get by with a little help from their parents. Last year the Bank of Mum and Dad lent a whopping £6.3 billion – making it Britain's 10th biggest lender.
So I did what any ageing millennial would do: I made some avo toast, and moaned. I then set myself a goal: to scrape together enough money for a deposit for my 18-month-old daughter sometime before she hits 30.
And after some head-scratching, several hours with a trusty calculator and fuelled by MSE Towers' tasty espressos, I hatched a plan. Now, before I go into it, I just want to make clear that while my plan might work for me, it doesn't necessarily mean it's the right thing for every MoneySaver out there – whether or not it'll work for you all depends on your personal circumstances.
How best to maximise my savings
I had a starting sum of £5,800 sitting in the bank. I'd like to say this was because I'd been a diligent saver, but no. It was down to the fact I didn't actually receive my statutory maternity allowance until well after my maternity leave was over. But in any case it was a solid base from which to start my quest. Fuelled with New Year zeal (and with the help of MSE's budgeting tool and Demotivator), I worked out I could set aside about £300 each month.
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.
But what about LISAs?
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.
Let's not forget about the humble pension...
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 with my company pension already maxed out, a LISA increasingly seemed like an efficient and flexible way to store my savings. By my daughter's 27th birthday, I'd be 60, and able to access the cash without penalty.
But surely there’s a catch?
So here's the deal with LISAs – once you're 60, you can take your cash and run. You can buy a Ferrari, set up a cat sanctuary, or gift it to your children. It's your money. And you don't pay tax on the cash. All money taken out of a LISA at 60 is tax-free.
And just to make sure my plan wasn't completely bananas, I ran it past a tax expert at consultancy firm Lang Cat who said the thinking was sound.
But what about a stocks & shares LISA?
But a cash LISA isn't the only type of LISA out there. There's also the stocks & shares LISA. These are riskier than cash LISAs because you're not actually saving, instead you're investing in the stock market. But they have the potential to deliver higher returns. And as I am saving for the longer term there's time to ride out short-term bumps in the market.
After looking around at the best buys I've chosen to go with Nutmeg – it's easy to use and clearly explains the risks and potential benefits of investing. Also, the app is intuitive and will ask questions about your appetite for risk – you can even select a fund that puts social responsibility at its heart. But there are plenty of other options out there so for more, see our LISA guide.
So here’s what my current projection looks like with Nutmeg:
After 25 years, with £15,000 in Government bonus, and £60,000 in LISA contributions it's projected that I will have:
A 50% chance of having at least £148,046
A 5% chance of having less than £83,813
This doesn't factor in the extra saving between the ages of 50 and 60. So if I keep up my monthly saving in a top-paying cash ISA, after 10 years, at the current best rate of 1.31%, this could be a further £42,215. So including that sum I'd have:
A 50% chance of having at least £190,261
A 5% chance of having less than £126,028
So far my £4,000 has 'earned' £162 after six weeks. I know investments can go up and down, so I'm learning the art of not logging in every hour to check how it's performing. But I'm also aware that I can't ignore it – if it makes substantial losses over an extended period of time, it will be worth re-evaluating.
And as I get closer to the big 6-0 I will revisit whether a stocks & shares LISA is still the best option. Right now I'm thinking that the closer I get, the safer I'll want to play it, so perhaps I'll choose less risky investment options. Or I might transfer the balance to a cash LISA in about 15 years – but that will of course depend on my circumstances at that time. If I climb the corporate ladder and move up tax brackets, I might also revisit the idea of boosting my pension.
The pre-baby and (pre-MoneySavingExpert) Amalia wouldn't recognise the responsible, financially solvent adult I've now become. I'm saving those £££s and it feels incredible to know I'm doing it to help my daughter get a good head start in life.
And I'm still always saving room for, and savouring, my dessert – you can't sacrifice everything...
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