SIPPs - Self Invested Personal Pensions

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SIPPs - Self Invested Personal Pensions

Update: Further to the Chancellor's Pre-Budget on 5 December 2005

The government has decided that residential property will not be allowed as a SIPP pension investment. However, commercial property is still an allowable investment in the UK and abroad in certain circumstances. The following can all be purchased or used as an in-specie contribution into a SIPP. References to a "member" are to the beneficiary of the SIPP.

1. An hotel with a flat in the hotel occupied by the member. The member would not necessarily have to pay rent and this could be a connected-party transaction post A Day.
2. A house occupied by the member with a barn converted to gites - i.e. holiday lets with some services such as pool and maybe evening meal as long as the member was in separate accommodation and not occupying one of the gites.
3. Flats let out as serviced holiday flats with the member providing breakfast, linen, tourist info etc as long as once again, the member is in separate accommodation.
4. In the above 3 examples the residential element is not classified, for the purposes of the regulations, as residential.
5. Leaseback, in the context of say, an apartment in a para-hotel complex which the SIPP would buy as a commercial investment and lease it back to the developer or connected company for say 9 years under a commercial lease. That is an acceptable investment. However, at the end of the 9 year lease, it will be classified as residential and would have to be sold. The sale could be to the member or to a third party.

In all the above cases a fully workable SIPP structure is available and you can borrow subject to the allowable limits from any lender. Existing French properties which qualify can be put into the SIPP with all conveyancing aspects dealt with in London avoiding high notaires' costs.

Information on SIPPs (pre-5 December) 

SIPPs, which stands for Self Invested Personal Pensions, were introduced in the UK by the Finance Act 1989 and are individual pension arrangements which, unlike stakeholder or personal pensions, offer holders the opportunity to invest in a wide variety of assets, such as Unit Trusts, shares and property.

They offer more investment flexibility than many other schemes since the pension scheme holder can direct the trustees to invest in any given asset. Changes to rules regulating pension schemes mean that investors can opt to purchase both residential and commercial property in the UK and abroad through their personal pension schemes.

Because they are a way of saving for retirement, just like other pension schemes, you cannot have access to the money until then. SIPPs are available to employees who are not in company schemes, to the self-employed and to partnerships.

Ownership and Management

The assets are usually registered in the names of the trustees who typically consist of a financial institution and the person contributing himself. These trustees hold the assets for the benefit of the person contributing who has the main say as to what the SIPP invests in. The financial institution's role is to stop the contributor breaking the rules or going "off the rails".

The investment decisions are taken by you, the contributor, as stated above. If your SIPP includes rented properties the collection of rents and management of the properties may be handled by you, or the trustees may require estate agents to deal with this. The financial administration will be handled by the financial institution, which is acting as a trustee.

From 6 April 2006, many of the restrictive rules will be removed in particular allowing you to invest in residential property, both in the UK and abroad.

Setting up and running a SIPP can be expensive, but this depends on which SIPP provider you choose and how you run the SIPP. There are set-up charges, annual charges, fund management charges and trading charges all of which can run into thousands of pounds, making small SIPPs impractical, so getting professional advice is strongly recommended.

Advantages of contributing to SIPPs

There are income tax, general tax and inheritance tax advantages in contributing and holding investment in a SIPP.

Income Tax Advantage

The main income tax advantage of contributing to SIPPs is that money contributed to a SIPP is free of basic rate tax and will qualify for a rebate of higher rate tax if applicable. Thus if you are a higher rate taxpayer, this means that the government is effectively contributing an additional 40% to your SIPP fund.

However, there are limits. The lifetime limit in the year 2006 to 2007 will be £1.5 million and you can pay in an amount equivalent to 100% of your salary ("the annual limit") free of income tax as noted above, subject to a maximum contributions allowance of £215,000 per year ("the annual allowance"). You will have to pay income tax on the difference between your salary and the annual allowance in the usual way, subject to annual exemptions. These limits are to be increased annually (£1.6m for 2007 to 2008). By 2010 it should be an annual allowance of £255,000 and a lifetime limit of £1.8 million. Growth within the SIPP does not count towards the annual limits but will count towards the lifetime limit. If you go over these limits, you will face a tax charge in respect of the excess.

Tax advantages in holding

There are also tax advantages in holding investments in a SIPP. In the UK there is a complete exemption from Capital Gains Tax (CGT) and income tax within the SIPP subject to the proviso that income tax deducted at source in respect of dividends paid on shares held in the SIPP will not be recoverable. The tax position on properties owned abroad may vary and professional advice is essential.

A drawback is that you cannot get your hands on the money until you are 50 and after 2010 this will be upped to 55 years old. On becoming eligible to draw your pension, through your age (or, in certain circumstances, incapacity) the vast majority of SIPP holders will be able to draw a tax-free lump sum of at least 25% of the fund's value. The remainder will usually be drawn as income and is subject to income tax. In some cases the money can be extracted either tax free or at low rates.

There are strictly defined limits on the way that you can draw income from a scheme. Broadly speaking, you can use the funds to either purchase an annuity to provide income, or you can opt to slowly draw funds, subject to various rules as to how much, from the capital of the fund, as income.

Inheritance Tax (IHT) advantages

The payments into the SIPP are not chargeable transfers (or even potentially chargeable) because you are not reducing the value of your estate. You are providing for your future. If you die before you take any benefits from your pension then the money in your SIPP will pass to whomever you nominate free of IHT. This only works if the nomination is made in a non-binding letter of wishes although in practice trustees will almost always abide by the letter of wishes. If it is done in any binding way then IHT at 40% is payable subject to your nil rate band and other circumstances. If you die after you have taken an annuity this will not be relevant. If the SIPP has gone into full drawdown, which means that all the capital is being slowly used to provide income and you are under the age of 75, you can leave any remaining funds to a nominated beneficiary subject to a 35% tax charge. If the SIPP fund is only in partial drawdown and you are under the age of 75, the segments not designated as available to provide income can pass tax free as above.

Buying property through a SIPP

From April 2006, it will be possible to use a SIPP to invest in property in the UK and abroad, even where a mortgage is used to acquire the property, with SIPP allowed to borrow up to 50% of the fund's value. The bad news is that these rules are less favourable than those currently in force for the purchase of commercial property. Experts claim that the post 6 April 2006 borrowing power of a SIPP will be approximately one sixth of that at present.

One issue which is not clear yet is whether you can exchange contracts on the purchase of a property by the SIPP and complete after 6 April 2006, although in practice you could exchange contracts in your own name and assign the contract to the SIPP shortly before completion. This is in fact already happening. However, you should always consult with the trustees of your SIPP before committing to any such arrangement.

You can also sell your existing properties held in your own name into a SIPP provided that it is at a fair market price. However, you will need to consider the capital gains tax implications of doing so if this is not your principal private residence. You should also consider the implications in terms of stamp duty land tax (SDLT) as this will be payable by the SIPP on the purchase of the property and you will (probably) have paid it when you first bought the property. This effectively doubles your SDLT liability.

Living and using property bought through a SIPP

Investors should tread carefully here. It is not possible to buy a house in a SIPP and live in it for free. There is a restriction on personal benefits received from SIPP assets so if you did this, you would be charged tax on the deemed amount of the benefit you are receiving by living in the house (a "benefit in kind"), probably equal to the amount of the rent that the SIPP fund would be receiving if the property were let commercially.

The same principle applies to holiday homes. If you own a holiday home within a SIPP you will need to pay a tax charge for the weeks that you or you family use it, if you do not pay rent to the SIPP.

Getting money out of a SIPP

Aside from the entitlement to a capital lump sum as mentioned above, there are 2 ways you can access SIPP funds: drawdown, where you are simply paid money from the capital in the SIPP, and/or through the purchase of an annuity. As mentioned above, you cannot withdraw funds until you are over 50.

If you become seriously ill you may be able to draw all of the money out of your SIPP tax-free.

Frequently Asked Questions

• Pre-A day (6 April 2006) mortgage finance for SIPPs buying French property.

I want to buy residential property in France using my pension money before the changes due to take place on A-Day (6 April 2006) kick in. Can I do this?
Yes a Self Invested Personal Pension (SIPP) can do this provided the property you buy is not “habitable”. There is likely to be more flexibility in how this is dealt with in France than in the UK as the local French laws will be relevant.

What do you mean by not “habitable”?
There is no precise definition in the UK legislation. However purchases off plan with delivery by the developer after 6 April 2006 are unlikely to present a problem as the properties will clearly not be available for occupation until then. Existing properties which do not have functional toilet or kitchen facilities and which are being bought for renovation should also be acceptable. The SIPP could not rent them out until after 6 April 2006.

What about getting a mortgage to buy the residential property?
This is more of a problem. The UK rules state that a SIPP cannot borrow money to buy any property unless it is commercial property. The law is clear on this point. You can borrow up to 75% of the value of the commercial property or 75% of the costs of any development.

Can you get a mortgage of 75% of the value of French commercial property which is to be converted to residential?
Yes. This is fairly straightforward. It is probably easier to find suitable properties in France than in the UK.

Why would I want to do this?
Because if you wait until after 6 April 2006 you can only borrow 50% of the value of the pension fund. For most people investing in property the current borrowing regime will be better. In other words for most people you will be able to borrow an additional 25% of the value of the property.

Any thing else to bear in mind?
Yes. Make sure you get the tax structure right at the outset as French income, Capital Gains Tax and VAT are relevant. You also need a structure which is acceptable to the lending bank. Not all French banks will lend to a SIPP structure. This is an area where professional advice is essential.

Frequently Asked Questions: using SIPP to buy residential property in France

I understand that you can only buy residential property in a SIPP from 6 April 2006?
Correct. Exchange and completion can only take place after this date, whether the residential property is situated in the UK or in France. The SIPP trustees will normally be reluctant to allow either before this date, as they will have to deal with any consequences. These might (inter alia) involve breach of trust, which will make them personally liable to you (and your heirs) as well as susceptible to an application by the Inland Revenue for their removal as trustees as a result of which they would be unable to continue in business as SIPP providers. The risks in practice all fall on the trustees, who can lose their business, rather than on you.

So I can't exchange contracts before 6 April 2006 even if I only complete after that date?
Not if the property is “residential”. You can however buy commercial property; this has been the position for nearly 20 years.

Who decides whether property is “residential” or “commercial”?
The trustees of the SIPP, who must apply UK law in making this decision. The buck will probably stop with them, which explains why they tend to be so cautious and conservative. There will also be problems getting bank finance if the loan is for an arguably unlawful transaction and the bank is aware of this. However, depending on what you are buying this is worth exploring; for example you could buy a commercial property to be converted to residential post 6 April 2006, or land which does not yet have residential planning consent.

What can be done on more straightforward deals such as purchases off-plan for delivery by the developer post 6 April 2006?
The answer is to have an arrangement which does not amount to a contract under either French or English law but which nevertheless binds both parties. This is an area for specialist advice because it is pointless to have brilliant tax advice while overlooking the basic French conveyancing steps. Remember that all the contractual arrangements will be governed by French law – i.e. by the Code Civil etc. – as the property is in France and normally since the seller is in France payment is in Euros. It is very risky to assume that rules regarding conditional contracts and other similar devices work in the same way in France and they do in the UK.

What else?
Go through all the usual angles you would do in England, remembering that SIPPs and trust law do not exist in France so the automatic tax and other advantages you get in the UK do not necessarily apply. You need to think about matters such as (inter alia) taxation of income, capital gains, inheritance tax, VAT, wealth tax and the UK-France Double Tax Treaty. You also need to think about succession issues. Ultimately the property is in France so is good security for any costly pitfalls. SIPP trustees may be wary of all this as you may have a substantial claim in negligence against them if they get any of it wrong. This might not become apparent until the property is sold when, say, the notaire deducts capital gains tax at the corporate rate rather than the personal rate.

[Disclaimer: Please note that the information herein is of a general nature and you should not act or refrain from acting on it without professional advice on the specific facts of your case. Taxation is a complex subject and the above is a basic outline only and is intended only as a general guide. Nothing herein constitutes financial advice.]

Information supplied by David Anderson of Sykes Anderson LLP Solicitors
Specialist Tax Solicitor and Chartered Tax Advisor 
Sykes Anderson LLP, Bury House 31 Bury Street, London EC3A 5JJ 
Tel: +44 20 7398 4700, e-mail, website: www.sykesanderson.com
Copyright © 2005 David Anderson  All Rights Reserved