SIPP vs ISAs: what’s the best way to save for retirement?

SIPP vs ISAs: how to make use of tax-efficient saving options for your retirement.

elderly couple sorting paperwork
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It can be tricky working out the best way to save for retirement. Do you go with a tax-efficient individual savings account (ISA) or a private pension plan such as a self-invested personal pension (SIPP)?

The truth is there is no single right answer - and you could use both. But the right option for you will depend on factors such as your age, your future plans and hopes, and your current financial circumstances.

“SIPPs and stocks and shares ISAs are both ‘tax wrappers’, which offer their own benefits. There is a fair amount of crossover between the two, but there are also some important differences,” notes Daniel Evans, head of technical at financial planning firm First Wealth.

“ISAs are nice and simple; you can pay in £20,000 a year without any consideration given to your income or tax position. Pensions are more complex, but in simple terms, you can pay in up to £40,000 per year – however, this is dependent on your income.”

If you're looking to top up your pension or ISA this tax year, here's everything you need to think about when it comes to SIPPs versus ISAs.  

SIPP vs ISAs: what are the main differences?

ISAs and SIPPs are 'wrappers' within which you can hold a broad range of savings and investments for your future. The list of investments you can hold is broadly similar in either wrapper.

The key differences between SIPPs and ISAs are around how the taxman treats the products, and when you’re allowed to take your money out. 

Both pensions and ISAs grow free of income tax and capital gains tax, but when you invest in a SIPP, you can also claim tax relief. For basic-rate taxpayers, this means an extra 20% is added to your pot, while higher and additional rate taxpayers receive an extra 40% and 45% respectively. 

This is a really good perk of pensions – the government essentially gives you 'free' money and rewards you for saving for later life.

When you come to withdraw the money, a quarter can be taken tax-free, with the rest taxed at your highest income tax rate.

In contrast, ISAs don’t benefit from any tax relief when you pay money in - but all withdrawals are completely free from income tax.

In terms of accessing your money, savers can usually dip into their ISAs as they please, unless the ISA provider has placed any restrictions on them.

Private pensions such as SIPPs, by contrast, can’t be accessed until age 55 – rising to 57 in 2028. 

Martin Ansell, retirement savings expert at the insurer NFU Mutual, comments: “Adults can access their ISA at any time and that flexibility appeals to many investors.”

Can I have both a SIPP and an ISA?

Savers aged 18 and over can hold a SIPP and an ISA at the same time. If you’re able to contribute to both products, this can be an effective way of saving for your medium and long-term goals.

How much can I pay into SIPPs and ISAs?

The rules are quite straightforward for ISAs: all adults can pay in up to £20,000 across their ISAs each tax year. This includes both cash ISAs and stocks and shares ISAs, though the latter is the most popular option for retirement savings. 

With pensions, most people are allowed to contribute up to £40,000 each tax year. However, there are some traps to be wary of. If you earn above £200,000 a year, your annual allowance may be cut. It reduces depending on how much you earn – for the highest earners, their allowance will fall to just £4,000. This is the maximum amount they can pay into a pension and receive tax relief.

There is also a limit on how much people can have squirrelled away in their pensions in total.

Evans explains: “There is no limit to how much you can have saved within an ISA, but pensions are subject to a lifetime allowance, which limits the number of funds that can accrue. Any funds over £1,073,100 will be subject to a tax charge, so it would make sense to fund ISAs over SIPPs if you are likely to breach this value.”

Are company pensions a good option?

If you have the option of joining a pension scheme at work – rather than having to make your own individual arrangement, such as a SIPP – it almost always makes sense to do so. This is because your employer will also contribute to the plan – so not joining means missing out on extra cash.

If you’re in a position to save more, you can still open a SIPP as well, but remember that the annual allowance applies across all your pension plans. Alternatively, opening an ISA may be a good way to create a more flexible savings fund, knowing that you have an employer pension for the long term.

Pros and cons of SIPPs

Pros of SIPPs

  • Investors get free money from the government via tax relief. Even non-earners can get 20% tax relief, capped at £720 each year.
  • The money is locked up until at least age 55, meaning there is no temptation to spend earlier. This could be useful for savers who lack discipline.
  • There is no inheritance tax to pay. This is because SIPPs are normally excluded from people’s estates

Cons of SIPPs

  • The rules around how much you can save into a pension are complex - while most people can contribute up to £40,000 a year, if you earn above £200,000 a year, your annual allowance might reduce to just £4,000.
  • The lifetime allowance limits how much money you can build up across all your pensions. Anything over £1,073,100 is subject to a tax charge.
  • You cannot access your money until age 55 at the earliest. This would cause problems if you desperately needed the money. Withdrawals are also subject to income tax.

Pros and cons of ISAs

Pros of ISAs

  • You can take money out of an ISA whenever you like, though this does mean you need to be disciplined.
  • There is no limit to the total amount you can have saved within an ISA
  • There is no tax to pay when you withdraw money from your ISA

Cons of ISAs

  • The maximum amount you can pay into an ISA is £20,000 in the 2021-22 and 2022-23 tax years. The ISA limit is “use it or lose it”, meaning any unused allowance cannot be carried forward (whereas unused pension allowances can be carried forward) 
  • There is no tax relief on money paid into ISAs (though the government does pay a 25% bonus on contributions to lifetime ISAs
  • ISAs form part of your estate when you die, so could be liable for inheritance tax

What can I invest in with a SIPP and ISA?

Both SIPPs and stocks and shares ISAs offer a wide range of investment choices. They usually allow investment in funds, investment companies, exchange-traded funds and shares. It depends on the provider - some may limit you to investing in a small range of funds, while others will offer a wide selection of investments from all around the world. So, check the investment choice before you open the pension or ISA.

SIPPs generally have a wider range of options, as they allow investments in assets such as commercial property whereas ISAs do not - though not all SIPP providers allow this.

Also, remember to carefully check the fees before signing up. Evans comments: “SIPPs are likely to be more expensive than ISAs due to their slightly higher complexity and investment choice, but this is becoming less relevant as cheaper, simpler SIPPs become available.”

SIPPs or ISA: which is best for retirement?

Both SIPPs and ISAs can help you save for retirement. In an ideal world – and if your finances allow – you should have both. Both products have different benefits: ISAs are more flexible while pensions come with extra tax relief once you take into account the 25% tax-free lump sum option.

Deciding which one to go for may depend on your age, how much you earn and whether you want to be able to dip into it before retirement.

According to Ansell, pensions are often the best tool for saving over the long term. This is because of the tax relief and the fact they are not included in your estate when you die (whereas ISAs are), and therefore can be excluded from inheritance tax. This makes pensions a great vehicle for passing on wealth to the next generation. 

Evans adds that while pension withdrawals are subject to tax (unlike ISAs), if you think you will pay less tax in retirement (for example, you’ll be a higher-rate taxpayer while you’re working and a basic-rate taxpayer when you start taking cash from your pension), a SIPP can be a very valuable asset.

He explains: “SIPPs are best to use when the amount of tax you pay whilst working is more than the amount of tax you estimate you will pay in retirement.

“For example, an additional-rate taxpayer would receive 45% tax relief on any pension contributions made whilst they are working. If they are likely to only be a basic-rate taxpayer in retirement, they will only pay 20% tax on any withdrawals, meaning they have received a higher rate of tax relief than the amount of tax paid on withdrawals.”

Is a SIPP better than an ISA?

SIPPs and ISAs both offer tax advantages and are a great way to build a nest egg. SIPPs can offer bigger tax benefits depending on your income, and they are also useful if you need the discipline of not being able to touch it until you’re older.

However, ISAs should not be overlooked. They are a much simpler and more flexible product than a SIPP. They allow easy access to your tax-free savings, and there is no lifetime limit on how much you can build up across your ISAs.

Ansell notes: “A stocks and shares ISA is an important investment tool for many and may be more appropriate, for example, for those under age 40 who want easy access to their funds and who already pay fully into a good workplace pension.”

An ISA can also be handy for non-retirement savings goals, such as buying a property or paying for a wedding. There are no restrictions on when you can take money out of an ISA - although this cash will not then be available to you in retirement.

Should I move money from an ISA to a SIPP?

If you have a SIPP and an ISA, it could make sense to transfer the ISA savings into the SIPP.

For example, if you’re over 45 and have some money in another savings account that you can access in an emergency, withdrawing the cash from the ISA and paying it into a pension could boost your returns thanks to the tax relief.

According to NFU Mutual, higher-rate taxpayers could get an uplift of up to 41.7% while basic-rate taxpayers could benefit from a 25% boost.

They also get the added perk of avoiding inheritance tax, as pensions aren’t liable for IHT.

Of course, by moving the money you will be locking it up until age 55 (rising to 57 in 2028) – so you need to be comfortable with this.

It’s not possible to transfer an ISA directly to a SIPP – you will need to withdraw the money from the ISA first, and then pay it into the SIPP. Be careful of the pension rules when you do this, including the limits on how much you can contribute each tax year and the total amount you can have in your pensions.

If you’re not sure what to do or want some expert help, speak to an independent financial adviser.

Ruth Emery

Ruth Emery is contributing editor at The Money Edit. Ruth is passionate about helping people feel more confident about their finances. She was previously editor of Times Money Mentor, and prior to that was deputy Money editor at The Sunday Times. A multi-award winning journalist, Ruth started her career on a pensions magazine at the FT Group, and has also worked at Money Observer and Money Advice Service. Outside of work, she is a mum to two young children, a magistrate and an NHS volunteer.