Reasons to consider investing your pension in property
12th June, 2019
Through good times and bad, Ireland’s appetite for bricks and mortar has never wavered. Buying or investing in direct property offers a range of benefits including a reassuring solidity – whatever your stage in life. For many people, investing in property through a pension fund is a viable and attractive option. There are a number of reasons for this.
One of the main motivations for people to invest in property is the possibility of generating a steady income over a long period of time. Now that property values are once again accelerating upwards, particularly in Dublin, investors can reasonably expect an attractive yield and a potential uplift in value.
The benefits of bricks and mortar
As with property values, rent levels continue to rise, again with sky-high demand in the capital pushing Dublin rents 6.8% higher than a year ago (Daft.ie Q1 2019).This trend does not look like reversing. Here, a key benefit of investing your pension pot in a rental property is that you will pay no income tax on any rent received within the pension fund. All rental income is ring-fenced within the pension fund.
If you subsequently decide to sell the investment property, the pension fund will not have to pay capital gains tax (CGT) on the transaction. As CGT currently stands at 33%, this is potentially a significant saving.
A sometimes-overlooked benefit of investing in property through a pension fund is that you are using funds that have not been subject to income tax – this gives you greater bang for your buck when deciding what type of property, you wish to invest in.
Potential pitfalls: why you must consider carefully
As with any investment, there are potential drawbacks too. A pension fund cannot be accessed until you reach retirement (typically age 60). You can access a lump sum and then have the option to purchase an annuity or transfer the remaining balance to an Approved Retirement Fund (ARF ). Annuity income is subject to income tax and universal social charge (USC) and any withdrawals from an ARF may be subject to income tax, USC and PRSI. ARFs are subject to mandatory annual taxable withdrawals depending on your age and the size of the ARF.
The minimum entry level for investing in direct property is high and this could impact on your liquidity, for example if you need to use all or nearly all your pension fund to invest. There are also high ongoing costs associated with property, both expected (insurance, maintenance, etc.) and unexpected (nasty surprises!).
Before committing, you will also need to consider your overall investment strategy. After investing in the property, will your portfolio be adequately diversified? Is there a risk your pension fund will be over-concentrated in property? Will your investment leave you with sufficient liquidity to maintain your lifestyle? These are vitally important considerations to be talked through with a qualified adviser.
How to invest in property through your pension
If you decide that the pros of property investment through a pension fund outweigh the cons, the first step is to ensure you have a self-administered pension arrangement that gives you control over your options (as opposed to having a fund manager making decisions for you). This can be either a self-administered scheme, a PRSA (personal retirement savings account), a PRB (personal retirement bond) or, if you have already retired, an ARF (approved retirement fund).
As you would expect, there are strict Revenue rules around investing in property through a pension fund. In the first instance, your pension fund cannot invest in a property that you own yourself or one that is owned by anyone ‘connected’ to you (e.g. an employer or relative). Similarly, your pension fund cannot then sell the property to a connected person (including yourself).
Property development for the purposes of a quick sale is prohibited, while the property must be commercial or residential (your financial adviser will run through these options with you).
Can you borrow?
As long as you don’t have an ARF then yes, you can borrow – subject to certain restrictions and some proposed changes (please refer to IORP II below). Only assets purchased by the loan can be used to provide security to the lender, for example you cannot assign rental income to the bank as a means of repayment.
The loan should be repaid in full prior to the normal retirement age. And, while banks have loosened up considerably in this area in recent years, you cannot take out an interest-only loan or borrow for a period of more than 15 years.
A new EU directive on the activities and supervision of institutions for occupational retirement provision (IORP II) will be transposed into Irish law shortly. IORPs are funded occupational Defined Benefit and Defined Contribution pension schemes including small self-administered schemes.
Under this directive, scheme’s assets must be predominantly invested in regulated markets, therefore direct property investments will be restricted. In addition, borrowing will only be allowable for liquidity purposes and only on a temporary basis which will affect a scheme’s ability to borrow for direct property.
It is important to note that other pension structures like PRSAs, Personal Pensions and Buy out Bonds are not subject to the IORP II directive.
On balance, there are solid reasons to consider investing in property through a pension fund.
Although not back at the levels of the pre-crisis peak, Ireland’s property market is surging ahead once again, both in terms of value and rental yields. For pension fund investors, these key indicators provide reasonable expectations of a steady stream of income being received by your pension fund over a long period of time.
There are also potential downsides but, on balance, the benefits of owning property as part of your pension fund make it a worthwhile consideration. As with all major financial decisions, it is vital to seek professional advice that is tailored towards your own goals and circumstances. Scheduling a meeting with a financial adviser can help to get you on the right path.
Warning: There are risks associated with pensions. The value of investments may go down as well as up.
Warning: This information is based on Davy’s understanding of current tax legislation in Ireland and is subject to change without notice. It is intended as a guide only and not as a substitute for professional advice. You should consult your tax adviser for the rules that apply in your individual circumstances.
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