SIPPS – capturing opportunities in the Commercial Property Market

Minesh Patel

For many years business owners, sole traders and company directors have been advised by their accountants and financial advisers to pay pension contributions to save tax whilst building up valuable funds for retirement

Self Invested Personal Pension Plans, (SIPPs) like other personal pensions benefit from up front basic rate income tax relief added by the Government boosting your contributions. For every 80p you pay in to pension, the government adds another 20p boosting it to a gross contribution of £1

Higher rate payers enjoy even greater tax relief, as they can claim back up to a further 20p of every £1 gross contribution, through their tax return or via the local tax office. This means that, for example, that a £10,000 contribution to your pension plan would ultimately cost you £8,000 if you are a basic rate tax payer, and from as little as £6,000 if you are a higher rate tax payer. In addition to the up front tax relief, the investments within your SIPP will grow free of UK capital gains tax and income taxes , although taxes already deducted from dividends cannot be reclaimed.

Employer contributions are paid gross, however if an employer pension contribution ranks as a valid business expense, it can be offset against the taxable profits of the business. In addition, any contribution an employer pays on your behalf should not count as a taxable benefit and should not be liable to tax or National Insurance.
 
The tax advantages of pensions make them an attractive form of retirement planning. SIPPs have the advantage that they can invest in a wider range of investments compared to traditional stakeholder and personal pension plans. These two features have led to a rapid expansion n the sale of SIPPs.  Examples of the investments that a SIPP can invest in are:

•    Units Trusts and Investment Trusts
•    OEICs ( Open Ended Investment Companies )
•    Stocks and Shares
•    Bonds and other fixed Interest Securities
•    Cash and Deposits
•    Commercial Property and Land

Commercial property has been a highly attractive investment for many clients who have sought to invest in an asset that they understand and can control. Commercial property includes offices, factories and shops and it is particularly effective for business owners. A Self Invested Personal Pension Plan purchases the business premises which is then let back to the business. The rent payable to the SIPP has to be at market value and builds up within the SIPP, which then can be saved as cash and earn interest or invested in one of the assets outlined above. The main advantage of investing in a commercial property through a SIPP is that no capital gains tax on the profit generated on sale, a saving of 18 percent of capital gains tax.

An example will demonstrate the principle: Mr Smith aged 45 has a pension fund valued at £300,000, his company Bloggs Ltd rents an office for £30,000 each year. His SIPP could buy an office for £300,000 and pay a commercial market rent of £30,000 to his SIPP. In addition to the purchase price stamp duty and purchase costs would be incurred.

Mr Smith is planning to retire at 65, his SIPP would receive £30,000 each year for the next 20 years, (the rent can be reviewed and therefore the £30,000 annual rent would increase). As he approaches retirement Mr Smith can either sell the property or continue to let it to his Ltd company. It is important that planning is undertaken as he approaches retirement to assess the actions that need to be taken. For example if the property is to be sold yearly reviews are required because a commercial property may take some time to sell. His retirement fund would then be made up of rent plus interest or investment growth plus the sale proceeds from the property.

Commercial property owned through a SIPP can be let to a business owned by you or to another party completely unconnected. A question that I am often asked is whether residential property is a permissible investment for a SIPP, the simple answer is no.

Commercial property on average has fallen in value over the past few years creating opportunities for long term investors. It is for this reason that I would suggest reviewing your pension arrangements to assess whether commercial property is an appropriate investment through a SIPP for your retirement planning.

Remember that investments should be held for the long term as they can fall as well as rise, so you could get back less than you invested. As you approach retirement you should reduce your exposure to volatile and riskier investments in preparation for securing retirement income.

Funding
•    If the value of the SIPP is sufficient then an outright purchase can be undertaken.
•    The SIPP can borrow 50 percent of its value to purchase a commercial property.
•    If the individual SIPP does not have enough value to fund an outright purchase then a group of SIPPs could be organised to finance the purchase, this is particularly suited to business with a number of owners and where the commercial property has a larger value.
•    Part purchases - Some specialist SIPP companies will permit purchasing a commercial property using a combination of a SIPP and private funds.

For example
If Mr Smith wanted to purchase an office valued at £500,000 and he had a SIPP valued at £300,000 he could fund the reaming £200,000 privately. The SIPP would own 60 percent and Mr Smith Personally 40 percent. Stamp duty and purchase costs would also have to be paid. This is a specialist area and only permitted by specialist SIPP providers such as Barnett Waddingham.

Costs
SIPPs tend to have higher charges than the simpler pension plans such as stakeholder pensions and therefore are suited to investors who will use the investment choice offered by them. They are not suitable for those individuals who require non specialist investments, which can be by a stakeholder pension plan where costs are restricted to 1 percent of the value of the pension fund each year.

Options at Retirement
During your working life you build up a pension fund receiving tax relief on you contributions and investment growth on the fund. At retirement you can take up to 25 percent of the value of the pension fund as a tax free lump sum. The rest of your fund can be made available to provide a taxable income. You can either use the remaining fund to buy a lifetime annuity which pays an income for the rest of your life, or you can draw an income directly from your SIPP. You have to set up retirement benefits by your 75th birthday. This is a complex area but a summary is:

•    Lifetime Annuity -An annuity is an income for the rest of your life
•    Income Drawdown (unsecured pension) - This allows you to continue with your investments after taking tax free cash while drawing an income from your fund. You can use income drawdown up to age 75 at which point you buy an annuity or move to Alternative Secured Pension
•    Alternative Secured Pension – Since April 6, 2006 you do not have to buy an annuity by age 75, this works like income drawdown but for people aged 75 or over.

In summary SIPPs are extremely attractive investments for retirement if correct planning and suitable investments are housed within it, please take specialist Independent Financial Advice to ensure that you understand the benefits of a SIPP but also the risks.


Minesh Patel
Director of EA Financial Solutions Ltd: Independent Financial Advisers and Financial planning specialists based in North London