How do ISAs and Pensions Compare?

This section deals with ISAs and pensions compared because it is often not easy to see which is best for your circumstances.

As you seek to build wealth it is highly likely that you will use both Individual Savings Accounts (ISAs) and Pensions (company sponsored or personal or both). Both offer tax advantages and form the foundation of any investment planning.


The higher your marginal rates of tax the greater the benefit from both types of investment. Naturally, given the tax advantages offered, both have restrictions on how much can be invested. Other eligibility and access restrictions also apply.

Where possible you should take maximum advantage of the tax efficiency of both products but you won’t necessarily always have sufficient funds to do so. In this case you will need to know how they compare given your financial circumstances so that you can decide which to use and when.


With an ISA the taxation is very simple. No tax relief is available on any contributions to an ISA and no tax is payable when funds are withdrawn.

The taxation of a pension is more complex with income tax relief provided on eligible contributions at your highest marginal rate. When funds are withdrawn, 25% can usually be paid free of tax with the rest subject to income tax. The tax-free cash element can give the pension a significant advantage over the ISA.

The tax position while the funds are invested is the same for both ISAs and pensions. Both allow funds to grow in a tax efficient environment with no income tax or capital gains tax arising on the funds or any liability for you while they remain invested.

Contribution limits

The maximum investment into an ISA is a straightforward £20,000 in the current tax year (2022/23). The minimum age for a stocks and shares ISA is 18 and 16 for a cash ISA. There is no maximum age.

Whilst technically there are no limits on the amount that can be paid into a pension, in most cases contributions are restricted to the extent they benefit from tax relief. Tax relief on pension contributions is limited by the annual allowance with the standard allowance being £40,000 a year, but this can be as low as £4,000 for very high earners or those who have already flexibly accessed their pension benefits.

As well as the annual allowance, tax relief on personal contributions is restricted to the level of your relevant UK earnings (or £3,600 if higher) in the tax year they are paid.

Employer contributions

The big advantage of pensions in your journey towards prosperity comes from the fact that, if you are an employee, legislation requires your employer to pay at least a minimum contribution to a workplace pension scheme. Whilst the minimum employer contribution is 3% of your ‘qualifying earnings’ it still provides a significant benefit to help you on your journey towards prosperity. Many employers will pay more than the minimum required and also match your own contributions up to certain levels.

It is essential that where an employer pension scheme is on offer that you don’t opt-out of it.  And where an employer will match your own contributions up to a given level, that you make the maximum contributions required to gain the maximum employer contribution.

Employer contributions will benefit from corporation tax relief as long as they meet what are known as the ‘wholly and exclusively’ rules, which essentially means they form a legitimate expense in the running of the business. Employer pension contributions are also exempt from employer national insurance. This can make them a tax efficient way to reward employees.

Only you can pay into an ISA and so your employer can’t directly fund your ISA. Some employers offer to facilitate ISA contributions for their employees, but this offers no advantages other than administrative convenience.


The ISA has the clear advantage when it comes to accessing funds. Funds can be withdrawn at any time with no tax penalties. Investors can build up significant funds and withdrawal them as required without fear of tax consequences.

Pension funds can’t be accessed until the minimum retirement age (currently 55) unless you are in ill health or have a protected retirement age.

Since April 2015, once you reach the minimum age, pension funds can be accessed very flexibly. However, the withdrawal of funds still needs to be carefully managed as all withdrawals other than the tax-free cash portion are taxed at your marginal tax rates in the tax year they are received. Therefore, whilst in theory a fund of say £500,000 could be taken all at once this is unlikely to be the best tax planning option.

Death benefits

The full value of a your ISA investments will form part of your estate for inheritance tax purposes on your death. Where you leave a surviving spouse or civil partner, they can inherit an increased ISA allowance, that is, an amount equal to your former ISA holdings. Where you leave no surviving spouse or civil partner, this allowance will be lost.

Pension benefits can usually be paid out free of inheritance tax where the scheme has discretion over who should receive them. In addition, all benefits are payable free of income tax if you were unfortunate enough to die under the age of 75. Where you are aged 75, or above, when you die the benefits are taxed at the beneficiary’s marginal rates of income tax as and when they draw them.

The pension funds can remain outside of anyone’s estate if held in a beneficiaries’ drawdown and passed down the generations while remaining in a tax efficient environment.

Comparing the numbers

As we have seen, the tax differences aren’t the only consideration when comparing the two products. However it is worth looking at how the tax advantages compare.

The table below compares the net returns for the same net cost investment of £1,000 for an ISA and a pension with different marginal tax rates. The final column compares the situation where you are a higher rate taxpayer when the investment is made, but will only pay basic rate tax on withdrawal.

For these examples, growth on the investment is ignored. However, with the same growth assumptions the percentage outcomes will remain the same.

  ISA Pension basic rate Pension higher rate Pension additional rate Pension higher to basic*
Net cost £1,000 £1,000 £1,000 £1,000 £1,000
Investment £1,000 £1,250 £1,667 £1,818 £1,667
Net withdrawal £1,000 £1,063 £1,167 £1,205 £1,417
Pension vs ISA %   + 6.3% + 16.7% +20.5% +41.7%

The above reflects the final cash position whether the pension contribution is made net (i.e. where tax relief is given at source), or whether a gross pension contribution is made (e.g. an occupational pension contribution deducted from salary that reduces taxable income before tax).

However, where a pension contribution is made net, any higher or additional rate tax relief has to be reclaimed from HMRC, so the contribution is made in anticipation of this to arrive at the net cost. For example, for a higher rate taxpayer, a net pension contribution of £1,334 has basic rate tax relief at source of £333.50 added by HMRC/the provider. The taxpayer can then reclaim a further £333.50 of higher rate tax relief, bringing the net cost of the contribution by the taxpayer down to £1,000.

The pension has a clear advantage over the ISA at all tax rates. For the first three pension columns this is due to the tax-free cash element. The higher the marginal rates of tax the greater the benefit it brings. The final column combines this advantage with the benefit of receiving a higher rate of tax relief on the contribution than the tax that is paid on the withdrawal. This advantage can also benefit many basic rate taxpayers who may pay no tax on part of their pension income.

If you combine the tax advantages with the benefit of a matched employer contribution, then the pension is clearly the first choice in terms of tax advantages. However, this needs to be weighed up against the advantage of the ISA which allows access to funds at any time without a tax penalty.

Lifetime ISAs

In addition to the standard ISA, since April 2017 there has also been the Lifetime ISA option which could be seen as combining some of the advantages of both.

The Lifetime ISA or ‘LISA’ is aimed specifically at those saving for retirement or for a first home. The LISA enables those between the ages of 18 and 40 at outset to save up to £4,000 in each tax year with the added benefit of the Government providing a 25% bonus on the contributions paid in a tax year at the end of that tax year.

Savers are able to make LISA contributions and receive the Government bonus from the age of 18 up to the age of 50. So, effectively, someone who opens an account aged 18 will be able to secure lifetime savings of up to £160,000 (i.e. £128,000 saved by them and £32,000 as Government bonuses). At age 50, permitted contributions must cease.

Funds can be withdrawn from the LISA at any time, but the Government bonus will be lost and a 5% penalty will be incurred unless the investor is over the age of 60 at the time of the withdrawal or the funds are to be used towards the purchase of a first home with a cost of up to £450,000. 



This information does not constitute personal advice and should not be treated as a substitute for specific advice based on your circumstances.

Information given relating to tax legislation is based on my understanding of legislation and practice currently in force. Whilst I believe my interpretation of current law and practice to be correct in these areas, I cannot be responsible for the effects of any future legislation or any change in interpretation or treatment. In particular you are warned that levels of tax and tax reliefs are subject to alteration and, in any case, the value of such reliefs and benefits may depend on an individual’s circumstances.

If you are in any doubt as to whether any course of action is suitable for you, then you should discuss the matter with a suitably qualified independent financial adviser or other specialist.