Retirement in depth
Property vs. Pension
May 2007
Pensions have been getting a lot of negative press over the past few years, leading some people to invest in property to give them an income in retirement. But should you really rely on your home to fund your pension? Jennifer Lowe investigates…
As property prices continue to rise, with no indication of falling, opting for bricks and mortar over a pension seems to have become a popular choice when it comes to planning for retirement.
Industry experts hold different views on the best way to fund retirement years, some say property, some say pensions, but according to the Association of British Insurers the answer to retirement planning is not to rely just on property investment. It recommends a mixed bag – cash and equities as well as property.
A report from the Pensions Policy Institute (PPI) found that despite the recent surge in property prices, the majority of people will not have enough housing equity to allow them to retire without savings in other assets.
Director of the PPI, Alison O’Connell, commented: “Saving in property is often proposed as an alternative to saving in pensions. For most people, owning a home contributes to retirement by reducing the cost of living compared to renting.
Buy-to-let
Over the past few years people have started to invest in buy-to-let properties as a way of saving for retirement, or even as a way of providing an income during those later years.
Having a rental property in your retirement can be very attractive and in the right circumstances can have several key advantages over a traditional pension.
Find out how much your home is worth
A traditional pension can be quite inflexible, you pay a sum of money every month for your working life and a series of investment managers decide on the best place for your money and if they get it right you get a nice sum for your retirement.
If they get it wrong or if the world’s stock market take a turn for the worst, your retirement may not quite live up to your expectations.
Investing money in bricks and mortar allows the investor to choose many of the criteria such as the location, type of property and the market it is aimed at – young professionals, families or students.
Whether residential property is a better bet than traditional pensions is a long-running argument, but past records show that houses have not performed as well as shares or commercial property.
Those who invested in property years ago are sitting on healthy gains, but houses have not always been outstanding performers and there is no guarantee that they will be in the future.
Halifax has been a long-standing provider for consistent house price data, and their index shows that a property valued at £100,000 in 1986 would have been worth over £400,000 at the end of 2006.
Trading down
When planning for retirement, some people look to their family home to provide a form of income, trading down to a smaller property releasing funds to be used as a pension.
This has two main advantages. As well as ridding yourself of a mortgage milestone, you also don’t have to pay capital gains tax on any profit as the family home is your principle residence.
However, basing your retirement income on a profit from a property can pose problems. You may find it difficult to sell your home, or it may go for less than you had hoped, both of which would have a dramatic effect on your pension pot.
Retirement is costly, and experts roughly estimate that you should have a pot of around £100,000 to give you an annual income of £20,000.
O’Connell said: “Not everyone wants to release housing equity – and it does have risks – but it could be used to reduce the amount of pension saving needed to meet a target retirement income.
Tax
The main thing to consider when deciding whether to place your hard-earned cash into property or into a pension fund is that pension contributions attract generous tax relief of between 22 per cent and 40 per cent - for a higher-rate taxpayer this means you pay £60 towards every £100 in your pension.
Plus, you are allowed to take a quarter of your fund as tax-free cash.
With property, any cash you realise from residential properties will be subject to 40 per cent capital gains tax, less your personal allowance and annual inflation indexation. On top of that, unlike being a landlord, holding a pension is virtually hassle-free.
The risks
Property is not without its own set of risk. The housing market has increased by 15 per cent since last April, but it doesn’t mean that this is set to continue.
As with stocks and shares, a property investment can go down as well as up, although it is much more difficult to research property 10 years ahead. Who knows what the next 10 – 20 years holds for the property market.
Even if the market remains stable, specific issues such as a change in the local geography of your property can have a dramatic effect on the value of the house, for better or for worse.
“For most people, property will be at best a complement to occupational or personal pensions, not a substitute.”
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