If you make an early withdrawal from your Lifetime ISA, you have to pay a fee out of your own money.
How Lifetime ISAs Work
To open up a Lifetime ISA (LISA) you must be a UK resident who is over age 18 but under age 40. You can deposit up to £4,000 a year into your LISA until you reach age 50.
You can open and contribute to a cash ISA and LISA in the same tax year, but remember that contributions to your LISA will still count towards your annual ISA limit.
You can only withdraw money from your LISA if one of the following applies:
- You are buying your first home (which must be under £450,000)
- You are aged 60 or over
- You are terminally ill and have 12 months left to live
Taking money out for any other reason is classed as an unauthorised withdrawal. As it currently stands, you pay a withdrawal charge of 25% if you make an unauthorised withdrawal from your LISA.
How the 25% Withdrawal Fee Works…
The government bonus is 25% so surely a 25% penalty just takes you back to where you started, right? Wrong – this is a common misconception. The charge effectively acts as a 6.25% exit penalty, meaning you actually give back some of your own money as well as all of the government bonus you have received.
Let’s break it down…
If you put £1,000 in your LISA, the government bonus is 25%, meaning you now have £1,250 in your account. If you then make an unauthorised withdrawal, you will pay a 25% fee. But this fee is not 25% of what you originally put into the account. Instead the fee is 25% of £1,250 (the account’s balance after the bonus), which works out at £312.50. Therefore, by making this early withdrawal, you are worse off than when you started.
Some Argue the Fee Should be Reduced
Some have argued that this 25% early withdrawal fee should be reduced to 20% instead. The House of Commons Treasury Committee heard from expert and industry voices on Wednesday 26th February as part of their inquiry into whether the LISA Is still an appropriate financial product, or whether it requires reform. During this, Michael Jonson, one of the architects behind the LISA scheme stated that he had proposed a withdrawal charge of 20%, essentially meaning no penalty.
This is because the 20% withdrawal charge would negate the government bonus, meaning people would not lose any of their money if they chose to remove their money from a LISA. The only thing they’d be losing out on compared to having their money in an ordinary savings account would be the opportunity to earn interest.
“I have a problem with it [the 25% Lifetime ISA withdrawal penalty] for first-time buyers buying a house. So what we have is, we have a succession of young people, who are saving in the vehicle they have been encouraged to save in by the state, who are then using, trying to use their savings to buy a first-time property.
“But, due to house price inflation, their property has just tripped above the £450,000 level. And then, not only do they not get the £1,000 a year bonus they were intended to get – which I understand, and it’s legitimate, there’s a threshold – they are fined by the state effectively 6.25% of their own money in order to withdraw that money to get the cash out. And the problem with that, is not just for the individuals who it affects.” – Martin Lewis to the Commons Treasury Committee
Martin Lewis also called for the £450,000 LISA limit to be increased to catch up with the average growth in property prices, and then index-linked to house prices after, possibly even on a regional basis. Additionally, he argued that the 18-39 LISA age limit is a form of age discrimination and should be scrapped.