A house or a pension? Buy-to-let, and get two for the price of one

Investors still think property is the future

Melanie Bien
Sunday 23 March 2003 01:00
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Many investors continue to regard bricks and mortar, rather than a pension, as the answer to their retirement planning. Even though the property market is slowing down, accountants are being inundated with requests from clients who want to keep tax to a minimum when they invest in buy-to-let.

David Gibbs, office tax partner at the accountants Grant Thornton, says many of his clients are using the surplus cash they would once have earmarked to top up their pension fund to make downpayments on bricks and mortar.

The shift away from pensions as a means of saving for retirement may have accelerated recently, but John Whiting, tax partner at the accountants Price-WaterhouseCoopers, says a small number of wealthy people have been investing in property alongside their pension plans for years.

"The better paid have often suffered from the cap on pension contributions," he says, "so they have looked elsewhere to build up their retirement savings."

But it is in the past three or four years that property has really taken off as an alternative investment. "The bad press traditional pensions have received, and the wide range of buy-to-let mortgages available, mean more people are seeing it as a good way of putting money aside," says Mr Whiting.

If you do opt for property over pensions, you need to plan carefully to minimise the amount of tax you pay. Pensions come with excellent tax relief: every 66p a higher-rate taxpayer saves (78p for a basic-rate taxpayer) is topped up by the Government to £1. The income from the fund accrues free of tax and, when you retire, you can take up to a quarter of your pension pot as a tax-free lump sum.

But pensions are inflexible. Before you reach the age of 75, you have to use three-quarters of your savings to purchase an annuity and, with the stock market in the doldrums, returns have been poor. Property has the clear advantage that over the long term you are likely to see capital growth, while in the meantime you enjoy a rental income. You can also sell your investment if you want, making it easier to get your hands on the cash when you need it. It's no wonder that many people are putting all their surplus cash into property to supplement their pensions.

You may not get the same breaks with property as with a pension but, with foresight, you can reduce your tax bill. Watch out for income tax on the rental income and capital gains tax (CGT) when you sell the property.

"If you are married you can split ownership between spouses, and this can be useful if one of you is non-earning," says Mr Gibbs at Grant Thornton. "The non-earning spouse can receive the rental income, so reducing the overall tax bill."

And if a property is in two names, you get twice the CGT allowance when you sell it. Each person has an annual CGT allowance, currently £7,700.

If you keep the property for longer than 10 years, you can reduce your CGT bill further. For example, if a husband and wife bought a house for £100,000 and sold it in 10 years' time for £200,000 (net of expenses), this would give rise to a gain of £100,000. Non-business asset taper relief applies after 10 years, reducing the gain for tax purposes by 40 per cent (ie down to £60,000). Assuming a current CGT annual exemption of £7,700 per person, this would give the two owners a gain of £44,600 or £22,300 each.

The rate of tax depends on total income and gains in the year. If they come to more than £29,900 (the higher-rate threshold), CGT is payable at 40 per cent. If one spouse had no other income in that year, he or she would pay only 20 per cent (£4,460 on the above £22,300). If the other spouse had other income of say, £20,000, then £9,900 of the gain would be taxed at 20 per cent and the balance, £12,400, at 40 per cent. This would leave them with a CGT bill of £6,940.

Taking out an interest-only mortgage when you invest in property allows all your expenses to be written off against tax. Mortgage broker Savills Private Finance is offering a three-year fixed-rate deal at 4.8 per cent. Director Mark Harris also likes Mortgage Express's five-year deal, fixed at 4.99 per cent.

If you are happy with a discounted rate, Peter Gettins at mortgage broker London & Country recommends Leek United's 1 per cent discount for three years, giving a current pay rate of 4.69 per cent. He also warns buy-to-let investors to watch out for higher arrangement fees as lenders try to claw back some of the cost on what can be a risky investment.

The telephone number for Savills Private Finance given on last Sunday's Property page should have read 0870 900 7762. We apologise for any inconvenience.

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