Financial advisers have warned that taking advantage of the pension freedoms and using your pension to buy a property is not the most tax efficient use of your money.
Tony Mudd at St. James’s Place said that retirees tempted to invest their pension pot in property should think carefully.
“The government has empowered a generation of retirees to do much more than they could before, including the idea of investing in the buy-to-let property market. With meagre returns on cash savings, buy-to-let offers the potential for attractive levels of rental income and capital gains and retirees may feel they can tread a more familiar path by investing in bricks and mortar,” he said.
“There’s no doubt buy-to-let can offer some attractive upsides, but investors who have saved diligently into a pension because of the tax breaks will baulk at the prospect of handing back 40% or more in tax. Those who understand the need to maintain their standard of living throughout retirement will be working hard to minimise the tax they have to pay.
“According to a recent HSBC study (May 2014), gross rental yields in some property hotspots can be as high as 7 or 8% per year. As impressive as this sounds, buy-to-let is not necessarily the fail-safe investment opportunity these figures suggest; there are many other factors that need to be taken into consideration.
“Residential property cannot be held in a pension, people purchasing a house or flat will firstly need to draw the required sum from the fund. The new rules make it possible to withdraw the whole fund, with 25% available tax-free but with further amounts taxed at the individual’s marginal rate of income tax. People taking a large withdrawal could therefore find much of it, along with any other income for that year, taxed at the higher 40% rate, or the top rate of 45%.”
Mudd warns that the potential tax burden doesn’t end there. If the value of the buy-to-let property rises sufficiently, it will be liable for Capital Gains Tax when sold. In addition, any property owned by the individual forms part of their estate for Inheritance Tax (IHT) purposes.