Business Owners: The value of financing commercial property purchases through your pension…
When you run your own business, your office rental costs are a considerable outgoing, dramatically eating into your revenue. But what if buying your own office, investing in a potentially lucrative asset and saving tens of thousands in corporation tax in the process was possible?
With some specialist advice and intelligent reworking of their pension schemes and contributions, long standing clients of ours did just that. Here’s how.
OUR CLIENT
Our clients are a married couple in their early 40s with three kids. They run their own business as joint shareholders. They each opened pensions early on in their careers, but hadn’t been contributing in recent years.
THE BUSINESS IDEA
The business they own had been renting an office building locally to where they live at c£30k a year. When we discussed some ideas of what “good” looked like for them, they spoke about really wanting to buy a building for the business to work from. They felt that the business was sustainable enough for them to take a calculated risk, some additional debt (mortgage) to pay down over time giving them a long-term income-generating asset.
Together, we estimated they’d need £350,000 to £375,000 in total to buy and renovate a suitable property. Obviously, this is outside of central London.
HOW TO FUND A PROPERTY PURCHASE WITH YOUR PENSION
The business had around £300,000 of cash built up and we discussed also using pensions to buy the property.
The amount anyone is allowed to put into a pension in a tax year is 100% of earnings up to £60,000. However, if you haven’t used your full pension allowance in the current or previous three tax years you are allowed to ‘carry forward’ any unused allowance to the current year.
If you’ve not contributed this year or the previous three years (and had earnings of £40,000+), you can use up the £60,000 allowance for this year and last year and then £40,000 for each of the previous two years (as the allowance was lower back then). This makes a total contribution of £200,000.
Our clients liked the idea of using cash from their business and getting tax relief on a potentially large SIPP (self-invested personal pension) contribution. If you make a corporate pension contribution, the amount you contribute is taken off your company profit in that year. For example, if you made a profit of £100,000 and make a £20,000 company pension contribution, your profit would reduce to £80,000, meaning you pay corporation tax on £80,000 rather than on £100,000.
GETTING SPECIALIST ADVICE
We opened a Small Self-Administered Scheme (SSAS) with Day Cooper Day, an SSAS provider specialising in commercial property purchases. They aren’t the cheapest, but when considering a property within a pension, it’s my view that it’s important to have people who understand the market and know what they’re doing. Most pensions are individual, however opening an SSAS allowed us to use the allowances from both clients as a pooled asset. A further benefit of investing into a SSAS is that it allows borrowing of up to 50% of its net assets, which in this case meant a further £125,000 for the pot.
We then made a pension contribution from their company of £125,000 each (£250,000 total), leaving £50,000 in their business for emergencies and cash flow.
THE RESULT: PROPERTY BOUGHT AND A SAVING OF OVER £60k IN CORPORATION TAX
They found a building with a purchase price of c£260,000. There was scope to refurbish and extend the ground floor giving a total spend, including costs and Stamp Duty of around £370,000. We used Santander for the loan which allowed the clients to purchase the commercial property and complete the refurbishment.
This purchase was a significant investment for them but the contribution was off-set for tax purposes. This saved the company almost £63,000 in Corporation Tax.
For business owners, using a pension scheme is a really tax efficient way of buying their trading premises and effectively paying the rent to themselves. There is tax relief on the rental contributions received and the rent paid by the business is a business expense so is tax deductible. The rent essentially becomes their pension payments, which, when received by the pension, is also non-taxable.
THE PROFESSIONAL FEES
The clients mitigated c£63k in corporation tax, they added value from the refurb and then had their business pay down the debt, whilst simultaneously funding their pensions.
The SSAS and Santander needed valuations, both of which had fees attached, there were the normal mortgage broker fees and an additional borrowing set-up fee due to the complexity. The interest rate is c5% over base, which is fairly competitive for a commercial mortgage. The set-up cost for Day Cooper Day was around £2,000, with ongoing costs of around £1500 per annum as well to run the investment and regulatory requirements.
This client is a Tier 1 client with Engage - they pay £4,800 per annum. This piece of work was outside of their fixed fee agreement due to the complexity of work, time spent and associated risk. We agreed a one-off fee for this piece of work of £4,000.
Total Fees: c£10,000
PROS AND CONS OF BUYING PROPERTY THROUGH A PENSION
Pros
· There is no capital gains tax on a property sale within a pension
· There is no income tax on rent received into the pension
· SSAS assets are not accessible to creditors in case of bankruptcy
· Assets within a pension are outside of the estate for Inheritance Tax
· SSAS can claim VAT back on development costs
Cons:
· The additional ongoing costs are higher for the complexity
· Added risk, if business goes bust you lose business and rental income
· Property is an illiquid asset class and could take a while to sell
· There is a lack of diversification in a property purchase
Compliance note – the advice below was specific to a client I know well. I know their circumstances in detail and am therefore able to advise. There will likely be things I’ve neglected to mention from a compliance point of view in this blog but they will have been considered and covered!