The Lifetime Isa has emerged as a handy place to save up to buy a first home.
Savers between the ages of 18 and 39 can put up to £4,000 a year in a Lifetime Isa and gain a 25 per cent government top-up paid monthly into their account.
But they must decide whether to save or invest that cash – and experts warn that investing for periods of less that five years can be overly risky and unwise.
The problem is that there are only seven lifetime Isas on market at present but only one is a cash Isa. It is offered by Skipton Building Society and pays a fairly modest rate of annual interest of 0.75 per cent.
As with all investing, your capital is at risk – doing so through a lifetime Isa is no different
The rest are investment Isas – although classified as separate from conventional stocks & shares Isa – which offer the potential for inflation-busting returns.
But unlike cash savings, there is a real risk of getting back less than what you put in, which investment theory says is magnified the shorter the time period you invest for.
Those making their first ever investments with no financial advice may not realise these risks.
This is where the danger lies.
The Lifetime Isa is marketed as a no-brainer for young adults saving to buy their first property, and in many cases it is. Savers can get a government bonus of up to £32,000 (if they managed to save a huge £128,000).
More likely is that they may save £10,000, which will get a 25 per cent top-up taking it to £12,500.
That’s free cash which can be put towards a deposit for a house purchase.
But investments are not to be taken lightly. Stock market volatility is a difficult beast to tame – even for the most seasoned investor. As with all investing, your capital is at risk – meaning that you could get back less than you paid in. Just because you are doing so through a Lifetime Isa makes it no different.
If numerous studies are to be believed, many young adults simply don’t understand basic investing – leading to concerns that youngest Lifetime Isa holders might end up of losing significant amounts by pooling all their savings into a couple of companies they are familiar with.
Generally speaking, the more eggs you have in one basket the greater risk you take.
While there isn’t a silver bullet when it comes to investing there are a number of strategies to help investment Lifetime Isa holders grow their savings.
With this in mind, we asked two experts to offer some guidance how to investment Lifetime Isa holders aiming to buy their first home in three and fives years time should use their savings.
Three-year investment horizon
Holly MacKay, investment expert and founder of the advice website Boring Money, said: ‘Three years is not a long time and is the very minimum timeframe for investing. It certainly means you should look at a less volatile set of investments which are a mix of bonds and shares.
‘If you only have a three year window, I would suggest looking at the least risky portfolios – these will be like cash on steroids.
‘So the balance of probability is that they will do better than cash but be less volatile than shares.
‘The problem will be if markets head south and you need to sell out in this downturn. So do keep an eye on things.
‘And the closer to the three year window you get, the more you should think about moving everything to cash to protect yourself.’
What about the Help to Buy Isa?
Both the Lifetime Isa and Help to Buy Isa offer a 25p bonus from the government for every £1 saved, but there are some key difference.
For many people, the Lifetime Isa is the better option because you can put more away each year through the Lifetime Isa and earn a larger government bonus as well as buy a more expensive property.
But it is important to remember that you can only withdraw funds in a Lifetime Isa once the account has been open for a year, while you can use your Help to Buy Isa money once you’ve saved £1,600.
What’s more, a 25 per cent charge is levied on cash or assets withdrawn from a Lifetime Isa if they’re not used for the purchase of your first home
For more information about how the two products compare, click here.
Scott Gallacher, chartered financial adviser at Rowley Turton, said: ‘I would say that cash savings is the only option for those looking to buy a house in three year’s time because if there is a economic crash, you could potentially lose something like 20 per cent of your portfolio – going by historical figures.
‘Even a global fund, which is widely considered a less risky option because of high diversification, won’t help you in this situation.
‘In fact, they have lost investors between 40 per cent and 50 per cent during a crash in the past.
‘Bonds, which are traditionally considered as the security element of an investment portfolio, also expose investors to considerable risk. Bonds have an inverse relationship with interest rates, so if interest rates increases, the value of bonds decreases.
‘The Bank of England has indicated that the only way is up for interest rates, so there is a real risk of the value of bonds purchased today eroding within three years.
Five-year time investment horizon
MacKay said: ‘A five-year timeframe gives you the benefit of a longer window to ride the inevitable ups and downs. At this point you can afford to move slightly up the risk scale to a mid-range portfolio.
‘I’d consider the Vanguard LifeStrategy range of funds to put into the Lifetime Isa – and the 60 per cent equity option feels about right for a five-year window.
Gallacher said: ‘If you are saving on a regular basis, you can take more risk because of pound cost averaging.’
This is because drip feeding money into your investments means that you will buy more units in your investments when prices are low and fewer when prices are high – in theory.
Gallacher also recommends Vanguard’s Lifestrategy range of funds, adding: ‘It’s a cheap and easy way to invest in a basket of investments and no advice is required.’
The rule of thumb is to invest over a five year timeframe to allow for stock market volatility
‘It’s not very cost effect to create a comprehensive portfolio when you are limited contributions to £4,000 a year in a Lifetime Isa, but those with a high attitude to risk could consider a blend of funds investing in shares.
‘Again, it’s hard to recommend bonds at a time where an increase in interest rates appears imminent. Using the right combination of funds, you can create a portfolio that suits your attitude to risk.’
DIY or robo-adviser?
Hargreaves Lansdown, the Share Centre and AJ Bell Youinvest, Foresters Stocks & Shares and OneFamily offer an investment Lifetime Isa allowing you to either pick investments or model portfolios constructed by their experts (in some cases both).
If you do go down the route of investing it yourself, then there are some choices to be made. First it is wise to think about what you are doing and why, so read our guide to creating an investment plan.
Nutmeg and Moneybox are among a new breed of services are the digital wealth managers, known as robo-advisers, which have tools to assess your risk and then build a portfolio that is then automatically managed for you.
Their Lifetime Isa allows you to pick from a selection of risk-rated portfolios which are managed and rebalanced periodically.
MacKay said: ‘If you are not confident about the world of investing I’d look at Nutmeg. If you choose the sort of outcome which you are happy with, and answer a few simple questions, they will put together the investment mix on your behalf.
‘If you are building your own, then AJ Bell Youinvest and Hargreaves Lansdown are decent options.
‘Hargreaves has also recently launched Simply Invest which is a straightforward way to access the UK stock market through a Lifetime Isa and probably worth a look.
‘Nutmeg will cost you about 1 per cent a year all-in. AJ Bell Youinvest with the Vanguard LifeStrategy would costs about 0.47 per cent a year.
‘Hargreaves Lansdown’s Simply Invest would cost about 0.49 per cent a year.’