One door shuts, but it’s still worth getting your foot in

The week before the end of the tax year saw a huge influx in transfers of commercial property into Sipps as investors sought to take advantage of existing taper relief before it was scrapped on April 6.

Prior to this, capital gains tax (CGT) on sales of assets such as commercial property was as low as 10 per cent if the assets were held for more than two years. Suffolk Life, a Sipp provider, reported seven times as many property completions in the two weeks to the end of the tax year, saying the tax changes were directly responsible.

But even though CGT has now risen to a flat rate of 18 per cent, transferring commercial property into a Sipp still has significant advantages.

It is a particularly affordable time for business owners to buy their own property, says Mike Morrison, pension strategy manager at Winterthur Life. He argues that bargains in commercial property can be found and people who might not previously have been able to afford to buy their premises may now find they can do so.

The tax rate itself remains an attraction, adds Morrison. This is because there is no CGT on the growth of property within the Sipp.

So Morrison advises any business owner to think about whether the individual, the company or the pension scheme should own the company premises. If the individual owns it, the main advantage is ownership and control over tenants. If the company owns it, the property is on the balance sheet which can enhance the value of the company.

But the downside of both these options is that CGT is paid on any growth in value of the property. If the property is in a Sipp, it is also protected from creditors should the business fail.

A Sipp can borrow up to 50 per cent of its net asset value to buy a property. If this is still not sufficient, two or more business partners can make a joint purchase.

Borrowing within the Sipp might be preferable to taking out a loan – particularly given current market conditions which might make it difficult to obtain a commercial mortgage.

If the value of the property is above the annual allowance that can be paid into a pension scheme in one tax year (£235,000 in 2008/09), Steve Latto, pensions development manager at Alliance Trust, says it can be transferred into the pension in stages over different tax years.

Individuals who are not business owners can also benefit from having commercial property in their Sipp.

One major advantage, particularly for those drawing an income from their pension, is the rent. Rent received from a tenant is paid to the Sipp holder as income, without eroding the value of the fund.

Rent is a very good way of getting regular income, says Malcolm Small, director of portfolio and retirement planning at the Tax Incentivised Savings Association. “One of the issues with income drawdown generally is the fear that you’ll consume the value of the fund while you take income from it,” he says. “But with rental income, it’s reliable, always turns up and clearly won’t take out the capital.”

There are certain points to bear in mind when considering transferring commercial property into a Sipp. One is that, as the Sipp trustees will be the legal owners of the property, they may want to do an environmental audit on the land.

Small warns: “Providers will have reservations about properties in need of serious maintenance, or those that present an environmental hazard – for example, properties on a former petrol station site. They are also wary of properties that are part-commercial, part-residential as this can cause conflict with the rules on residential property.”

Small also says that a Sipp provider should be chosen carefully. “Some claim to be able to handle it but have very little commercial property on their books,” he cautions.

The main things to look out for are whether the provider has a good property administration team – and how many properties it has under management compared with how many Sipp accounts it has. “If the ratio they transact in a year in relation to the overall number of accounts they hold seems low, it’s probably a bad sign,” he warns.

Those in poor health who may be thinking of purchasing an impaired annuity should also think twice about staying in income drawdown. Small says there are very good enhanced annuity rates around, which could be more attractive than using rent from commercial property as pension income.

Finally, if a Sipp is used to purchase a commercial property, asset allocation should still be borne in mind. Advisers say that even if a Sipp
is geared up to buy a
property, other investments outside the Sipp should BE diversified across asset classes such as equities and bonds.