Certain pensions (most commonly, self-invested personal pensions ‘SIPPs’) are permitted to own commercial property.
For small business owners, this can be a highly tax-efficient way of owning your own business premises and can turbocharge pension savings in the build-up to retirement.
The mechanics
Purchase works in a similar fashion to any normal property transaction - surveyors, lawyers, estate agents, etc. will be engaged in the usual way, only it is your pension that shall subsequently own the property.
The pension can use borrowing to help fund a purchase, albeit this is restricted to no more than 50% of the pension value.
Say, for example, you have pension savings worth £500k, you could borrow up to £250k (50%), providing you with total purchasing power of £750k.
Disclaimer: Special care must be taken when using borrowing, i.e. leveraging any commercial property purchase. This can be a high-risk proposition – there is no guarantee that the growth in the value of the asset will exceed (or match) the overall charges/interest on the loan.
The advantages
The advantages of using your pension to buy commercial property are far-reaching:
- If you already own the property either personally or through the business, transferring ownership to your pension can provide a valuable cash injection – the pension will buy the property from you or your company,
- Once inside the pension, any subsequent appreciation in property value is completely tax-free. This is a major benefit of owning it through your pension rather than the company, where any growth will attract corporation tax,
- The pension will lease the property back to the business – the rental expense is tax-deductible in the hands of the business, but is received tax-free by the pension, thereby providing a source of ‘tax efficient cash extraction’ for company owners,
- The rental income is not classed as a contribution – the business can therefore continue to make additional employer contributions on top of this, up to £60,000 per person per year (plus any available carry forward from the previous three tax years),
- The property now sits inside your pension, which is completely ring-fenced from the business. It also sits outside your estate for inheritance tax purposes.
Consider the following example:
Hugo and Libby own and co-run a successful limited company in Cheltenham, turning over £1m a year and with profits of c. £400k. They currently rent some office space from a third party, for which they pay £3,000 pm. They have £200k in surplus cash within the business and £150k in each of their pensions.
They would like to explore the option of buying the office space, valued at £600k.
- Hugo and Libby make an employer contribution of £100k to each of their pensions, using their current year’s annual allowances plus available carry forward from previous years (hence no annual allowance charge),
- This takes the combined value of their pensions to £500k,
- They then borrow an extra £180k via their pensions, taking total purchasing power to £680k, which they use to buy the office space outright, whilst keeping a further £80k back for purchase costs and a liquidity buffer,
- The company will continue to pay rent at £3,000 pm, but this is now being directed into their own pensions rather than some third party. It remains a tax-deductible business expense but is received tax-free by the pensions,
- Some of the rent is used to service the £180k mortgage, the balance shall be reinvested in a diversified investment portfolio that sits within their pensions (alongside the commercial property),
- Meanwhile, Hugo and Libby can continue to contribute to their pensions as normal, up to £60k per year plus any residual carry forward from the last 3 tax years.
The above is designed to turbocharge their pension savings, via a mix of rental income, tax-free capital appreciation and additional pension contributions.
Disclaimer: A pension is a long-term investment and funds are not normally accessible until 55 (rising to 57 from April 2028). When investing via a pension, your capital is at risk. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The Financial Conduct Authority does not regulate tax advice.
The disadvantages
Of course, there are some drawbacks:
- First and foremost, liquidity, or lack thereof. Property is an illiquid asset and therefore cannot be quickly or partially drawn upon to meet income needs. It’s therefore important to have sufficient liquidity elsewhere. In the case of the pension, liquidity should improve rapidly through ongoing contributions and rental income, particularly once any debt is cleared.
- Where a property is the pension’s main asset, this represents a lack of diversification, i.e. having ‘all your eggs are in one basket’, potentially leaving you exposed to a de-rating in this asset class. This is why it’s best practice to have a mix of property and other investments. This might not be possible at the outset but can normally be quickly improved by reinvesting rental income and additional contributions via a more traditional (and liquid) portfolio of equities and bonds.
- Property can be difficult to value, and obtaining accurate valuations may incur additional costs.
- I’d caution against buying commercial property between too many parties, e.g. multiple business owners. This can cause issues where one member wants to retire (and needs liquidity) or decides to leave the company altogether. As ever, keep it simple.
- As with any property purchase, there are significant upfront costs involved – lawyers, estate agents, Stamp Duty, surveyors, etc. That’s why it’s always important to have a reasonable buffer in the pension, over and above the purchase cost.
- Ongoing costs will also be greater – as noted above, there will be additional costs associated with the property (management, valuations, etc.), and SIPP charges are typically higher than for ‘standard’ personal pensions.
- Rental income is tied to the success of the property tenant, so you’re potentially doubling down on the business, assuming you’re effectively renting the property to yourself. I’d therefore argue that this is only appropriate for mature companies with stable revenue streams.
- When taking pension income, if there aren’t sufficient other liquid assets within the pension, you may be reliant on a quick and easy sale of the commercial property, which might not be achievable. Ditto when the business is sold, assuming the property forms part of that transaction.
- VAT can be messy when purchasing a commercial property partly via a pension and partly either personally or through the business itself. Specialist advice should be sought in this case.
The key point here is that specialist advice should be sought.
Summary
For small business owners, buying your own commercial property via pension savings can be extremely effective. It provides another source (along with employer pension contributions) to extract cash in a highly tax-efficient manner and can turbocharge pension savings in the run-up to retirement.
That said, commercial property purchase via a pension is not suited to everyone and special care should be taken when going down this route.
Disclaimer: This blog is for general information only and does not constitute advice. The information is aimed at retail clients only. Since I don’t know your specific situation, none of this information should be construed as tax or financial advice. It is not an offer to purchase or sell any particular asset and it does not contain all the information which an investor may require to make an investment decision. Although endeavours have been made to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. We cannot accept responsibility for any loss because of acts or omissions taken in respect of any articles.
