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Last Updated: Friday, 29 July 2005, 13:40 GMT 14:40 UK
'Property pensions' only for wealthy
By Samantha Washington
BBC Radio 4's Inside Money

A new house
The government said it is not a suitable investment for most people

New rules allowing the purchase of property through a pension will be inappropriate for most people, the government has admitted.

In a statement to BBC Radio 4's Inside Money, Revenue and Customs said this type of investment, which will be permitted from April next year, would only be realistic for those with the largest pension pots.

The government warning comes despite much hype in the media about the many tax breaks which will enable people to buy residential property more cheaply from April 2006.

And critics are arguing that unless more is done to publicise the "health warnings" there will be a significant risk of "mis-buying".

The new rules will allow investors who buy residential property through a Self Invested Personal Pension (SIPP) to enjoy tax relief on money paid in.

Higher rate taxpayers who make a contribution of 60,000 into their SIPP will receive 40% tax relief, giving them a fund worth 100,000 to spend on property.

There will also be no tax to pay on rental income or on any profit from eventual sale of the property.

Borrowing limits

These tax breaks are a mouth-watering prospect for many.

Couple looking at a house
The average pension pot would permit a mortgage of only 15,000
Interest from would-be landlords in these kind of property pensions will boost demand in the housing market by 5%, according to figures just released from financial advisers Hargreaves Lansdown.

But Revenue and Customs, which is in charge of bringing in the new scheme, said that putting property into a pension will be "realistic only for those with the largest pension pots".

It spoke of many "limiting factors" which mean that "for most people residential property will not be an appropriate investment".

One of the factors ruling out all but the wealthiest is the rule governing what pension funds can borrow.

A SIPP can be used as a deposit to take out a mortgage.

But government rules stipulate the home loan can be no more than 50% of the value of the pension.

This means that the average pension fund in the UK of 30,000 could borrow 15,000 to purchase property, giving a total buying power of 45,000.

This is just a fraction of the average house price, meaning that property bought through a pension is only achievable for those with sizeable funds.

Rental income

Those seeking to make a living as a landlord may also find the rules too restrictive.

To let signs
Rental income would be tied up until the landlord retired
The property is not owned by the investor but by the pension fund itself.

Any rental income and capital from the sale of the property cannot be taken out of the pension fund until retirement.

In addition, all mortgage payments and the costs of buying or selling the property must be made from the pension.

This means that a reasonable amount of capital needs to be tied up in the scheme to meet these expenses.

And there are other costs to consider. As the owner of the property, the pension trustee may also insist on a professional managing agent.

Experts predict the outlay of this to be 6-10% of the annual rent of the property.

These costs come on top of the set-up and annual maintenance charges which will be imposed by the administrator of the pension. Experts suggest that a SIPP containing a property will be twice as expensive to run as one without.

This again makes this type of investment only suitable for those with generous funds that they can afford to lock away.

Health warning

Pensions expert Ros Altmann
There is significant risk of mis-buying
Ros Altmann, pensions expert

Some pensions experts have raised criticism that the government is not doing enough to publicise the health warnings attached to these property pensions.

Leading pension policy specialist Ros Altmann is concerned that the wrong people may be tempted to invest too much of their pension in the housing market.

Speaking to the programme she said: "The very people who shouldn't be putting money into property are the ones who tend not to have access to independent advisers.

"And if we know that, then we know that there is significant risk of mis-buying."

Ms Altmann acknowledged that property pensions offer an attractive tax break for the wealthiest, but said the risks should be more widely publicised by the government.

"Because the government has already accepted that for most people residential property won't be an appropriate investment, it ought to let most people know that's the case."

BBC Radio 4's Inside Money 2005 was broadcast on Saturday, 30 July, 2005, at 1204 BST.

The programme was repeated on Monday, 1 August, 2005 at 1502 BST. .

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