Which is the better investment: pension or ISA?

Written by
Eszter Z.
Fact checked by
Adam N.
Updated
Feb 2023

You have probably heard plenty of times that you cannot start putting aside money for your older days soon enough! The question you might be wondering is what is the best way to start saving for retirement? If you are a UK resident, pensions and individual savings accounts (ISAs) are both available to you and offer significant tax benefits. 

The best option for you depends on what are you saving for, and how much money you want when you retire. If you are saving for your retirement, then a pension is probably the better option because of the 20% tax relief. But if you may need your money sooner, ISAs are more flexible. The good news is that you can do both, save in a pension scheme and have one or several ISAs. 

Let’s look at the key differences! 

THE ESSENCE

  • The money you put into your pension gets a 20% tax relief, but is locked away until you turn 55 (57 from 2028)
  • Pensions have an annual allowance of £40,000
  • With most ISAs, you can withdraw money from your tax-free savings anytime
  • ISAs have an annual allowance of £20,000

What is a pension?

For UK taxpayers, the state pension is given based on the years worked and is currently around £9,600 per year. You cannot take that money until you are 66 (with the age limit rising in the future). And most employees and self-employed UK residents are also enrolled in employer-subsidised and tax-efficient personal pensions, which supplement the state-provided pension. Private pension pots are accessible earlier, at the age of 55. 

The pension annual allowance is the most you can pay into pensions in a single tax year, which is currently £40,000 or 100 per cent of your earnings (if that is lower). The money you pay into a personal pension is put into investments (such as shares) by the pension provider, which - as with any investment - involves some risk. 

The government supports your putting aside money by giving you tax relief. It is paid on your pension contributions. Basic-rate taxpayers get 20% pension tax relief. This means that every £80 you contribute is topped up to £100. High-rate taxpayers (earning over £50,00 per year) can reclaim an additional 20% tax on their pension contributions, making it a total of 40% tax relief. However, you have to actively claim this yourself. 

You can only access your pension pot when you turn 55 (or 57 from 2028). And the income you take from your pension in retirement is subject to tax. 

What is an ISA?

ISAs, or Individual Savings Accounts, are tax-free savings and investment accounts. There are different types of ISAs, which you can read more about here. You can add up to £20,000 to your different (or single) ISAs each tax year. (The amount you can add to your pension depends on your earnings.) You will not receive tax relief on contributions to an ISA, but the interest is tax-free.

However, unless it is a Lifetime ISA or a fixed-term Cash ISA, you can access your ISA savings tax-free at any time.

Compare pension and ISA

  Pension ISA
Tax 20% tax relief (40% for higher rate earners) on pension contributions No tax on interest, capital gains, dividends
Access You can’t access your pension pot until you turn 55 (or 57 from 2028) You can access most of your ISAs at any time (except for the Lifetime ISA and fixed rate cash ISA)
Annual allowance £40,000 £20,000
Investments Can be invested in cash, stocks and shares, bonds and funds Can be invested in cash, stocks and shares, bonds funds, and alternative lending

 

In summary, both pensions and ISAs have their advantages and disadvantages. Pensions offer tax relief and employer contributions, but access to funds is limited before age 55. ISAs offer tax-free savings and flexibility, but contributions are limited and employer contributions are not available.

 

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Further reading

Author of this article

Eszter Zalán
Eszter Zalán

Eszter is a former Editor and Financial Journalist for BrokerChooser. She wrote and edited BrokerChooser's content from 2021 onwards, bringing her more than a decade-long experience in journalism to the team. She has covered world affairs and several financial crises, and dove deep into SEO and coding to make BrokerChooser's content more accessible to users.

Everything you find on BrokerChooser is based on reliable data and unbiased information. We combine our 10+ years finance experience with readers feedback. Read more about our methodology.

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