Wednesday Wealth Dilemma: How should I invest for my retirement?

by Andrew Morris on 02 March 2010  |  3 comments
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Should I invest my savings in a SIPP or an ISA? You decide.

Should I invest my savings in a SIPP or an ISA? You decide.

My situation

I’m in my early 50s, and fast approaching my sell-by date, but let’s assume I’ve got 10 years left before even thinking about full-on retirement. And another active 10 years after that to enjoy the fruits of 40 years of hard labour before the dribbling dotage scenarios kick in. 

So let’s discount keeping my savings in any cash holdings in favour of stock market-based investments… and just hope they perform better than the last 10 years.

What I’m not interested in….

Of course, stock market-based investments are not my only long-term investment options - there are plenty of other wealth-creating contenders out there, but I’m counting them out for now: 

• Investing in gold – feeling like a bubble, as infamous hedge fund investor George Soros commented recently….although that didn’t stop him doubling his Goldfinger investment just a few weeks later!
• Investing in a UK buy-to-let property – been there, done that. OK, if it weren’t for the tenants.
• Buying an overseas investment property – am there, doing that. Read here for that separate dilemma
• Investing in racehorses – allergic to them. And they’re as unpredictable as their riders!
• Investing in wine – can you really imagine laying down a good claret for 10 years? As Oscar said, I can resist everything…. except temptation.

My dilemma

My big dilemma is whether I should invest in a pension or an equity-based ISA. Please help me decide what to do!

The rules

To make it easier to weigh up the pros and cons of both strategies, I’ve made the following assumptions:

• I will keep my savings invested for 10 years
• There will be no changes in current pension tax laws or ISA rules
• There will be 5% annual compound growth (I hope!)
• I will be at retirement age in 2020, at which point annuity rates will be based on my findings in this article.

Pension:

• I’d only need to cough up, say, £4,000 to make a £5,000 contribution, thanks to basic rate tax relief giving me £1,000 (let’s ignore higher rate relief for now, but if you qualify, you’d get a further £1,000 at current tax rates & reliefs).
• After 10 years, based on the assumptions above, that £5,000 will have grown to £8,235. Looked a bit groggy and was down after years two and seven, but hung in there until the final bell and improved nicely. 
• At 65, I’m sure I’ll feel I’ve endured too much punishment over the years and will decide to take the 25% tax-free lump sum of £2,059. I could treat the wife to a nice holiday on the Costa del Sol… or re-invest the money again.
• Buy an annuity with the remaining balance of £6,176. That way, we’ll get an income of £309 for every year I’m around (now I’ve stepped out of the ring), with £155 to the missus once I’ve snuffed it. But if we want to keep pace with inflation,  I’ll only get £155 a year, and ‘er indoors a measly £77 when I’m gone.

ISA:

• Investment is £5,000 up-front rather than the opponent’s £4,000
• Split decision from the judges as the ISA also has £8,235 under its belt by the end of the last round
• Here’s the kicker… I can now do whatever I like with the money in my ISA. Invest for income in retirement, spend the whole amount, invest a proportion of the total and spend the rest….or just leave it to grow until I really need it. 

The decision

In favour of pensions: I’d get an absolute return of 106% compared with the ISA’s 65%, thanks to the up-front tax relief granted on the pension contribution, and the power of compounding.

In favour of ISAs: there’s the ability to use the tax-free wrapper around my savings to use the money for anything I want to, compared to the straitjacket enveloping the pension.

You hold the casting vote – what should I do? Invest in ISAs or my SIPP? I know I’ve simplified the whole argument and haven’t delved into the respective tax & inheritance tax issues, or other investing options, but please let me know your thoughts by adding a comment below.

I’ve tried to squirrel away as much as possible into my SIPP over the last few years, but I’m rapidly coming round to thinking that the tax relief currently given on pension contributions doesn’t compensate for the flexibility over your capital offered by the ISA corner. What do you think?

I have enough money to last me the rest of my life, unless I buy something – Jackie Mason

The small print

• anything I write in the Wednesday Wealth Dilemma blog is my personal opinion, and not that of lovemoney.com
• I am neither qualified nor authorized to give personal financial advice
• I have quite a busy day job that demands most of my focus. We have a team of very dedicated and insightful writers, who will deliver much better researched and objective content into your inbox.