Case Study — buying property in pension schemes

Chancellor was only formed in 2006 — but this belies our advisers’ wealth of experience in the pensions industry.

For many years, the backbone of the Chancellor business and its predecessors has been work on bespoke pension schemes such as Small Self-Administered Schemes (SSAS).

The legislation related to this type of pension arrangement was first introduced back in 1978 — the year before one of our Chartered Financial Planners, David Heaton, entered the financial services industry.

Background

Bespoke pension schemes such as SSAS and Self-Invested Personal Pension Plans (SIPP) are not restricted to the traditional types of unitised investments that holders of many Defined Contribution Pension Schemes are faced with.

One option which has traditionally appealed to owner-managed businesses in particular is the option to acquire commercial property within the scheme.  And with a 40-year track record, this type of scheme is no ‘flash in the pan’.

Scenario

We were recently approached by a corporate client who traded from a commercial property that was personally owned by the Directors.

• The rationale behind keeping the property outside of the limited company was diversification and, to some degree, in case the business got into difficulty.
• The downside was that the business was doing well and the Directors’ remuneration meant that they were paying income tax at the higher rate of 40% and each director’s income was verging on £100,000. The rental income was pushing them over this figure — meaning that they lost most of their personal allowance of £11,850, resulting in an effective tax rate of 60% on a proportion of their income.
• The Directors had invested into conventional defined contribution pension schemes including personal pension and Stakeholder plans — and between them had built up funds of over £300,000 over a number of years, which were invested into standard insurance company type managed funds.
• The commercial property had a valuation in the region of £400,000.

Solution

A thorough analysis of the Directors’ personal arrangements was necessary to ensure that there were no valuable features or safeguarded benefits included in the plans, such as Guaranteed Annuity Rates, which would be lost upon transfer to a Small Self-Administered Scheme.

• It was clear that, even if the whole of their pension funds were transferred in, there was insufficient fund available to purchase the property outright. But one of the valuable features of a SSAS or a SIPP is that the legislation allows borrowings of up to 50% of the net assets. This meant that, if a suitable lender could be found, up to £150,000 could be borrowed to add to the existing pension fund to complete the property purchase.
• Given that only around £100,000 was required, as the property was not VAT-able, the Limited Company’s own bank was more than happy to assist as they would only be lending £100,000 on a property with a valuation of £400,000 — i.e. only 25% loan to value.
• Over the period that the Directors had owned the property personally, the commercial property market had been flat in that there had been no increase in the value — thus, there would be no Capital Gains Tax payable upon acquisition by the pension fund.
• The Directors received the £300,000 from the pension fund for their property, which gave them money to utilise personally. Once the property is owned by the pension plan any rental income received or capital gain generated on sale are tax free. In this particular example, the money was used to redeem their personal domestic mortgages and to give them surplus funds to invest.

Right for you?

Clearly the situation can be complex and there are many issues to consider while weighing up the benefits. Strategic financial planning should be undertaken by a professional adviser to ensure all of the Directors’ short- and longer-term requirements are catered for.

Other factors that need to be closely scrutinised by a professional adviser include liquidity issues — i.e. there is no point tying up all of the liquidity in the pension scheme if someone is looking to crystallise their benefits and withdraw the Pension Commencement Lump Sum (often referred to as tax-free cash) in the near future.

But crucial caveats aside, buying property in pension schemes can be an effective financial solution in the right circumstances.

If you think it might be appropriate for you, we’re happy to initially discuss your options in comfort at our office — at a cost-free, no-obligation meeting.

Contact your usual Chancellor adviser or call 01204 526846 to chat about pensions and property

The contents of this article are for information purposes only and do not constitute individual advice.