I am regularly asked whether buying a commercial property in a SIPP is a good idea. The question generally comes from business owners who are fed up with paying rent and want to become their own landlord.
I have worked on a number of these transactions recently and I am asked about this area so often I thought I would highlight the main advantages and disadvantages of buying your own business premises in a SIPP.
Tax. Your SIPP pays no tax on the rent it receives from your business, furthermore when the property is sold no tax is payable by the SIPP on any gain made.
If the property was held outside the SIPP, perhaps in the names of the business owners, tax would be payable on the rent received and also on any gain when the property is sold.
The tax advantages are one of the main reasons why business owners buy their premises in a pension.
Capital. The past few years have been tough, this has meant many business owners have used up their cash reserves.
I have found recently that using their pension has been the only way that many business owners have the spare capital, whether to buy outright or act as a deposit, to buy their premises.
Borrowing. A SIPP can borrow up to 50% of its net asset value to help purchase a property. The ability to borrow can often make the difference between being able to buy a property and not.
Being your own landlord. I have found many business owners resent paying rent to their landlord and would much rather pay it to themselves, even if it is going to their pension.
This is not a free ride, rent has to be set on commercial terms, but many business owners I speak to find it far more appealing paying rent to their own pension and rather than a landlord.
Tax relief on contributions. Somewhere along the line you or your business will have received tax relief on your pension contributions, this is now effectively helping you to buy your business premises.
We also come across clients where they do not quite have enough money in their pension to buy the property they want. A one off pension contribution can often bridge that gap, and again it should qualify for tax relief.
Tax relief on pension contributions has become less generous over the past few years; however it is again one of the main reasons why people use their pension to buy their business premises.
Costs. All legal costs and disbursements are paid by the SIPP.
Buying with other SIPPs. You may not be in business alone; you may have partners or fellow directors. We often see business owners group their SIPPs together to purchase a property.
Lack of diversification. Your pension is for your retirement, right? At some point it will probably need to at least make a contribution to your retirement income, if not provide the bulk of it. The question therefore needs to be addressed whether investing in one asset class, indeed often one property is a wise investment decision.
Commercial property prices have fallen significantly over the past few years and it is possible that other asset classes such as equities would have performed better.
Clearly this is down to the individual investments chosen; I am simply highlighting the fact that a lack of diversification is rarely a good idea.
Business problems. Almost every business owner I meet has dreams of selling up and retiring on the proceeds. Some do make that dream a reality; sadly for many the story is very different.
Buying your business property in your SIPP really does mean you are putting all your eggs in one basket. Your retirement income to a great degree is now dependent upon your business being able to keep up the rental payments.
Clearly if your business could not meet the rent payments each month or even worse it went bust, you could sublet the property; however tenants are not always easy to come by in these tough economic times.
Please forgive me if this point is somewhat negative, it is not meant to be, it just pays occasionally to think about the “what if”.
Flexibility. Buying a property in a SIPP does create an added layer of complication which can reduce flexibility.
For example, if you owned the property yourself it is down to you what you do with it. Perhaps you want to sublet a piece of it, or wish to consider changing part of it into residential use. However, SIPPs have rules laid down by HMRC which may prohibit certain things, particularly with regard to residential property.
Also, property owned by the SIPP cannot be used as security against personal or business borrowing.
Furthermore even if the HMRC rules allow something, there is no guarantee that your SIPP provider will do, many SIPP providers do not allow certain transactions. It pays to plan ahead and take advice to ensure that you don’t hit a snag.
Loan to value constraints. We have already established that SIPPs can borrow up to 50% of it’s value.
However, a bank may lend an even greater amount, sometimes up to 60% or 70% of the value if you were buying outside of a SIPP.
The cap of 50% can sometimes cause funding issues, a way round this problem can often be found, but is certainly adds in a layer of complexity.
Buying your business premises in a SIPP can be very attractive, not least because of the tax advantages. Being your own landlord can also be very appealing and this route is often the only way such a major purchase can be made.
However, there are disadvantages, particularly with regard to diversification and risk into retirement if it does not work out quite how you had planned.
Unfortunately, as boring as it is, there are no black and white answers. Like most things financial matters buying a property in a SIPP is right for some people and not for others. I look at each enquiry we get on its own merits and make careful recommendations based on individual circumstances; it really is the only way to get to the right decision.
For more information on whether SIPP property purchase is right for you please do not hesitate to contact me on 0115 933 8433 or by email at email@example.com