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ISA, ISA, ISA. In the run-up to the April annual contribution deadline for ISAs, it’s easy to see why some investors are forgetting all about Individual Invested Pensions (SIPPs).
In reality, however, ISAs and SIPPs are both ways to invest in the stock market (among other options).
Here I want to look at one good and one bad aspect of both.
Please note that tax treatment depends on the individual circumstances of each client and may change in the future. The content of this article is provided for informational purposes only. It is not intended to be, and does not constitute, any form of tax advice. Students are responsible for conducting their own due diligence and obtaining professional advice before making any investment decisions.
A SIPP usually provides a large annual allowance
How much a person can put into an ISA in a given tax year depends on certain personal details (such as age). It depends on what type of ISA or ISAs they want to put in.
As a general rule, the average older investor is allowed to put £20,000 a tax year into their ISAs. So, if someone just focused on their Stocks and Shares ISA, they could put in £20,000 – but not a penny.
In contrast, a typical SIPP owner can deposit more than that in a single tax year. In addition, they may be able to carry over unused allowances from previous years. That never happens with an ISA.
The exact amount of the SIPP contribution depends on various factors: the annual contribution limit is for all their private pension contributions and the SIPP may be just one of those.
However, in general, the annual contribution limit for a SIPP will tend to be much higher than for a Stocks and Shares ISA.
The good news is that an investor can use both. So, for example, once they’ve reached their ISA contribution allowance, they may have an unused allowance left in their SIPP.
Money in an ISA is not locked in
Now we come to what I see as an advantage of an ISA – but a disadvantage of a SIPP.
When an investor puts money into their SIPP, they can’t touch it until a certain age (currently 55). Even then there are rules on how it can be used.
In contrast, a Stocks and Shares ISA is more flexible. An investor can withdraw his money at any time, at will.
ISA capital gains and dividends are tax-free
A SIPP allows up to a quarter of the total amount on average (up to a defined limit) to be reduced tax-free to 55. The other half will usually be taxed on withdrawal.
In contrast, all capital gains and gains that accrue within an ISA are tax-free.
One share I hold in my SIPP Diageo (LSE: DGE). The recent shock share cuts mean I will be earning less passive income than before.
In my ISA, I can choose to withdraw dividends as cash. In my SIPP I am forced by my age to leave them inside the SIPP wrapper. That doesn’t worry me about my holding of Diageo, given its modest previous yield.
As a long-term investor, leaving Diageo shares in my SIPP for years suits me well. The price is down 51% in five years, though: I’m sitting on a capital loss, not a gain.
The ration cuts pissed me off. For now, however, I still think that the current share price overstates the risk to declining alcohol revenues. I believe it undercuts the number of brands that Diageo has similar stories to Johnny Walker and its unique production facilities.
So I plan to hold on to my shares.
