With the Population of the UK living longer than ever, the way you invest in retirement can have life-changing consequences.
Property has been seen as a good investment for a long time. But with house prices stagnant and an increasingly punitive buy-to-let landscape, can the pension still beat long-term growth?
Here, we’re looking at the pros and cons of both pension and property investment to help you decide what’s best for you.
Investing In Buy-To-Let Property
Property prices have risen in recent decades, leading many investors to create vast portfolios of assets worth hundreds of thousands of pounds, or even millions, of pounds in some instances.
But is investing in real estate still a safe bet? Headlines recently warned that the property bubble had burst in several regions in the UK – for example, the new LSL Acadata house price index showed a 2.5% year-on-year fall in London house prices.
Other areas, however, continue to see growth, with Wales seeing an annual house price rise of 4.8% between January and May. It is not unprecedented for the market to undergo blips as supply, demand and the mortgage-lending environment change themselves. For these reasons, it is important to see property as a long-term investment.
Is Buy-To-Let Losing Its Appeal?
There have been a number of changes for buy-to-let landlords in recent months, which are likely to make an investment in property less attractive than it once was. Mortgage interest tax relief has fallen to 50% and will be reduced to zero in 2020 with landlords now offering 20 % tax credit on their mortgage interest; mortgage lending requirements are tightening; some councils have implemented mandatory landlord licensing, and buy-to-lease properties now require a minimum EPC rating of E.
Property investors have also had to pay an extra 3 per cent in buy-to-let stamp duty since 2016, and higher and reduced-rate taxpayers are paying 28 per cent in capital gains tax on properties, compared to 20 per cent on other properties. Landlord’s duties can also be time-consuming. And if you use the management agent, you would need to take into account the possibility of troublesome tenants, times when the property is vacant, operating costs, insurance and maintenance of the house. Despite these challenges, investment in property can be profitable under the right circumstances. In fact, recent research estimates that someone investing in a buy-to-let property would now make an average of £265,000 in capital gains plus their rental income over a 25-year period.
The Pros and Cons of Property Investment
In recent decades, property prices have seen remarkable growth. The average house prices in February 2018 were £225K which is up from £57,726 in April 1990, according to the Land Registry.
Both the combination of rental income and capital growth ensures that you have both immediate income and the opportunity for long-term gains.
You are able to sell the property at any point, and you can spend the money in other ways.
Buying, managing and selling property takes more time than a pension contribution.
If you have a mortgage, you’ll run the risk of being left with negative equity as house prices fall.
Tax reforms have made investing in property less financially lucrative than it once was.
Mortgage lenders are tightening up their lending requirements. Property is accountable to your estate and is thus subject to inheritance tax.
Is It A Good Idea To Use Your Own Home For Your Pension Pot?
There are some people who prefer not to put money into a pension, instead claiming that ‘their house is their pension.’ But using your own home as a retirement gravy train can be troublesome – after all, you’re still going to need to live somewhere. The most logical course of action if you don’t have a big pension but have built up substantial equity in your home (or paid off your mortgage entirely) is to downsize on your retirement.
However, if you’ve been living in the same house for a long time, it can be an emotional wrench to leave, and a lot of people are shocked how hard they find it to adapt to life in a smaller home. Moving home also includes substantial costs – not least stamp duty, which can amount to thousands of pounds. Equity Release – where you borrow money from your home while still living in it – is your other choice if you have a house, but just a small pension. This is a costly choice, however, and would typically make a major dent in your offspring’s inheritance, so seek professional financial advice before releasing the cash in this manner.
Investing In A Pension As An Alternative To Property Investment
The pension reforms of 2015 mean that pensioners will have even greater flexibility. Money can be obtained from the age of 55, and you can choose how to take it – all in one lump sum, purchase an annuity, leave it invested in the stock market, and ‘pull-down’ income if you like it, or a mix of the three.
You also get tax benefits on any contributions you make to the pension fund, which means that a flat rate taxpayer only pays 80p for every £ 1 that goes into their pension, with the government paying the difference. Higher-rate payers will have to pay 60p per £ 1, and 55p for additional-rate payers. Your employer must also pay 2% on self-enrollment, rising to 3% from April 2019 – and some employers are far more generous than that.
Will Your Money Grow In A Pension Fund?
Last year, 95 per cent of the pension and withdrawal funds saw positive growth, according to Moneyfacts. The comparison site also shows that the average pension fund has risen every year since auto-enrolment was implemented in 2012, with four of those six years experiencing double-digit increases. This means that pensions actually enjoy faster growth than house prices. However, only 20 per cent of non-retired people agree that a pension would provide maximum returns compared to 49 per cent for properties, according to the ONS.
The recent collapse of companies, including construction giant Carilion and the BHS chain – and the subsequent effect on their pension funds – has led many people to doubt whether their pension is as secure as they thought it would be. Luckily, the pensions are covered. However, if your company goes bust before you retire and you have a final salary pension, you could lose 10% of your pot.
Pros and Cons of Pensions
It’s incredibly tax-efficient: pension tax reform ensures that the government can top up your contributions on the basis of your tax category.
If you save on a corporate pension, the employer will still make a contribution.
The pension freedoms of 2015 mean that you have a greater degree of flexibility these days as to how you can fund your pension.
You get 25% of your pension benefit tax-free, and that doesn’t count against your largest tax-free allowance.
You are unlikely to end up with less than you have put into your pension, but this is a downside of any kind of savings. Pensions do not count towards your assets for inheritance tax purposes.
You can’t use your pension until you’re 55 years old.
If you have a work pension, you’re not going to have a lot of control in how your money is spent, although you could look at a personal pension if you want to have a say.
The government could adjust the rules on how you can access your pension at any time.
Responsibility comes with control.
If you want to take out your whole pension in one go, you need to prepare carefully to make sure it lasts.
There is a slight risk that the pension fund may lose money, or that the business could go bust.
So What Should You Do?
The question of how best to spend your money to ensure a secure retirement is complicated, and definitely one on which you should seek professional advice. Neither property nor pensions provide a guaranteed level of income, and both options bear risks and possible rewards. No matter how much you might set aside, the volatile economic climate and the current ups and downs in the markets mean that the old adage ‘don’t put all your eggs in one basket’ has never been more appropriate.
Property ownership as part of a more flexible investment portfolio is likely to be a smart choice – and if you have the leverage of how your money is managed, you might also opt to invest in property in this manner. If this is not a choice, you may want to explore crowdfunding property or peer-to-peer lending. Although, since pensions are also doing well for growth at the moment and are so tax-efficient, it would be prudent to spread the money to ensure that you invest in this way, too.
If we’ve missed anything in this post or if you’d like us to answer a similar question then leave us a comment below or get in touch. If you’d like to read some more property posts then check out our blogs page.