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Investing in Property Using Your Pension Funds

Published by Susan Basnet
Published Date: April 15, 2024
Categories: Pension Scheme

Purchasing commercial property through pension funds has gained popularity for its tax efficiency. However, there are important considerations to grasp before moving forward. This article will explore factors like qualifying pension funds, VAT implications, and practical benefits.

What are the Qualifying Pension Funds?

To invest in property through pension funds, the primary criteria is that the pension fund must be a qualifying one. Typically, a qualifying pension fund fulfils all of the following criteria:

  • It is funded entirely, whether directly or indirectly, by pension members.
  • The investment risk is borne by the pension members.
  • The fund comprises pooled contributions from multiple pension members.
  • The risk assumed by the pension members is diversified across various investments.
  • The fund is established either in the United Kingdom or in a member state of the European Union.

It's important to note that the mentioned criteria are not exhaustive, and there may be additional requirements for a pension fund to qualify. Additionally, a pension fund might still qualify even if it doesn't meet some of the criteria listed above.

What is the Practical Advantage of Investing via Pension Funds?

Advantages of investing via pension funds

For Example, 

Let's take a look at how the Self-Invested Pension Plan (SIPP) works through a simple example involving John and his business, ABC Company. We'll see how effective planning can bring benefits in this scenario. Currently, his company pays an annual rent of £30,000 for its business premises. Given the substantial amount spent on rent, John is exploring options to utilise these funds more effectively. With £250,000 held in his SIPP, he is considering investing these funds to purchase a commercial property where his company can operate.

John can utilise his SIPP funds to acquire commercial property. Subsequently, his company will operate from this new premises. The company will continue to pay rent, this time to John's SIPP, amounting to £30,000 annually. Importantly, this rental income will accrue within the SIPP tax-free. Furthermore, for John's company, this rent remains a tax-deductible expense.

Another pension fund similar to SIPP is a Small Self-Administered Scheme (SSAS). Discover more about how this Pension Scheme operates by exploring our comprehensive guide on SSAS Pension Scheme.

Why do Pension Funds ‘Opt to Tax’ and What are the Implications?

A pension fund operates under similar VAT rules as regular businesses. It may register for Value Added Tax (VAT) and reclaim input VAT. Like any other VAT registered businesses, pension funds must file regular VAT returns.

It is a general practice for the pension funds to register for VAT and ‘opt to tax’ due to two main reasons:

  • One common reason for registration is when a pension scheme buys a property from a vendor who has opted to tax. In such cases, VAT is paid on the purchase price. If the pension fund is VAT registered and opts to tax the property, it can claim back the VAT paid to the vendor from HMRC.
  • Another scenario prompting registration is when significant development work is done on a property held by a pension scheme that wasn't previously opted to tax. Contractors charge VAT on construction work, requiring registration to recover these costs.

Once registered and ‘opted to tax on a property’, the pension fund must charge VAT on all future rental income and any subsequent sale.

However, this could pose a problem for tenants who can't recover VAT, either because they're not registered or because they make exempt supplies. They could face a 20% increase in rental payments, potentially making the property less attractive commercially. But VAT-registered tenants should be able to reclaim the VAT charged on rents, offsetting any issues caused by opting to tax.

What Kind of Properties are Eligible for Investing via Pension Funds?

Eligible properties for investing via pension funds

Commercial properties are preferred investment options for acquiring property through pension funds because they are non-taxable assets. While it is possible to invest in residential properties in certain cases, this type of investment is generally considered taxable property. For example, selling a property before the development or conversion is substantially completed never becomes residential property.

The trustees and administrators of pension funds are unlikely to approve investments in residential property.

Conclusion

Investing in property through pension funds offers a tax-efficient avenue for diversifying investment portfolios and securing long-term financial stability. However, careful consideration of qualifying criteria for pension funds as well as the property, VAT implications, and investment options is crucial. Seeking expert financial advice is recommended to navigate these complexities effectively and maximise the potential benefits of property investment through pension funds.

Frequently Asked Questions

Can I purchase a property from a friend or family member using my pension funds?

No, such transactions are subject to the arm's length rule, preventing the use of pension funds to buy property from friends or family members.

Can I purchase a property for development and subsequent sale?

No, utilising your pension funds to buy a property with the intention of short-term resale is not permissible. Property investments should be made with a long-term perspective and not for short-term gains.

What types of pension funds can be utilised for property investment?

To invest in property, an eligible pension scheme is necessary. Members of defined benefit or defined contribution pension schemes cannot directly use their funds for property investment. Instead, they must transfer their funds into approved scheme types, such as Approved Retirement Funds (ARFs), Small Self-Administered Schemes (SSAS), Personal Retirement Bonds (PRBs), etc.

Need expert advice on investing pension funds on property?

Contact us today for efficient and hassle-free assistance.

Susan Basnet
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