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All about SIPPs & Joint Equity
► Imminent changes that will affect the property market
By Brad Bamfield
Is the UK property market at its peak and overheating? The answer is perhaps not and although that may surprise you there is clear evidence that demand is going to get much greater and that means higher prices.
The UK Government has announced 2 significant changes to the structure of the Property Industry for introduction in 2005/6 that will have an upward pressure on house prices. They are:-
• Real Estate Investment Trusts (REITs) and
• Self Invested Private Pensions (Sipps)
► Real Estate Investment Trusts (UK-REITs)
The name Property Investment Funds (PIFs) was a working name for the UK version of Real Estate Investment Trusts REITs. However, the Government has dropped PIFs in favour of UK-REITs. They are the same thing even if you see them called different things.
Unlike SIPPS, REITs can invest in and own residential property as well as commercial, retail, industrial and other property sectors.
REITs are the property equivalent of Unit Trusts for share ownership which will allow investors to participate in the property market at lower risk and lower entry values. REITs are listed on the stock exchange and you buy and sell shares in the and your RITEs can be held in your Sipp. Confused? Well we hope you won’t be by the end of this article.
It is possible that individuals will be able to invest as little as £500 with lower risk. However, lower risk means lower value and the investors are only expected to receive returns at 1 or 2% above standard investment rates.
This is not a bad return but it is not terribly exciting especially when house prices are rising at between 15 and 20%.
So why the difference between returns? REITs will likely have a spread of investments across the industrial, commercial and housing sectors. The US REIT model has typical spreads shown in this graphic;
► SIPPS Update
March 2006 residential property excluded from SIPPS.
The 3 sectors will all be on different growth cycles and the structure is designed to flatten any coincidental peaks or troughs. So one sector might be in high growth while another is very low and they will balance out.
However, this low risk strategy and the proposed structure offers little incentive for the REIT managers to make any significant fees as they are required to pay out at least 90% of earnings. The only way to increase fees is to increase the size of the fund.
It is thought possible that the market capitalisation of the individual RIETs will rise to about £250M and while there is a ready supply of commercial and retail properties there is no large residential portfolio owners who can switch their properties into a REIT.
The Chancellor has appreciated this problem and seems likely to allow REITs to buy land and develop their own properties.
David Alexander, at Edinburgh-based property managers D J Alexander, said: "Is this an alternative to owner-occupation, to enable young people to rent as opposed to buy? Or is he (the Chancellor) trying to boost pension funds by encouraging more investment in property?"
Alexander warns that even if REITs work and do attract more money into the rented sector, which is already suffering from an over-supply, it will do nothing to dampen house price inflation which makes it even more difficult for First Time Buyers to buy rather than rent.
► Self-Invested Pension Plans - Sipps
Sipps were launched in 1989 by Nigel Lawson, the then Chancellor of the Exchequer and are particularly suited to the self-employed. They offer investors the option of making their own investment decisions. Moreover, they also offer a wider investment scope than traditional pension funds.
Gordon Brown was intending to extend the Sipp permissible investment categories to include residential properties but in March 2006 he announced that he had had a change of mind due to the expectation that too many buy to lets would be transferred into Sipps costing too much in tax relief. And the opposition of many experts and Mps..
About residential property and Sipps David Alexander, of Edinburgh-based property managers D J Alexander, says: "I only see the rich getting richer and the poor getting poorer, sadly. If he (the Chancellor) allows people to put residential property into their pension, it may help someone to buy a magnificent penthouse, put it in their pension and turn it in to a corporate let."
Andrew George MP for St Ives is one of many MPs who are worried over the effects of these changes and says:-
"I am encouraging the Government to restrict the opportunity to use SIPPs only on residential property which is then made available on the local private rented market under a long-term lease or acceptable tenancy or to be used for portfolios of shared-equity accommodation for locals. That restriction might help relieve some local problems. But without it, the housing problems of locals [and First Time Buyers] will be made significantly worse.”
For the foreseeable future Sipps allow the pension holder to invest in:
• Commercial & retail property, including that of your own company,
• Unit trusts,
• Insurance company funds,
• Deposit accounts,
• Traded endowments,
• Futures and options contracts,
• Stocks and shares, including investment trust and open-ended investment company(OEIC) shares on any Inland Revenue recognised stock exchange.
It now seems likely that REITs will be an acceptable investment in the Sipps scheme however, it is often the other property opportunities of a Sipp that attracts many new investors.
► Property and Sipps
If your partnership or company wants to buy a freehold commercial property, you can either use the existing Sipp funds to purchase the property outright, or put down a deposit of 25% or more and arrange the balance on a commercial mortgage.
The property is owned by the pension fund and therefore any growth in its value is free of income or capital gains tax. In addition, the rent payable by the partnership or company to the pension fund can be offset against your profits.
Because the property is held in a pension, you don't pay any tax on any rental income, or any capital gains tax on any profit on sale. Remember, though, that any income you take from your pension in retirement is taxed
However, there are some severe limitations you will only be able to borrow up to 50% of the value of the fund. So if, for example, you have £100,000 cash sitting in your pension, you can borrow 50% of the total fund through a commercial mortgage (£50,000) and buy an investment worth £150,000.
Sipp (Self Invested Personal Pension) – are designed to allow customers to not only assume full control of their finances but also take advantage of new investment opportunities arising from pension simplification in April 2006,
So REITs and Sipps will not now gang up to further increase house values as more “wealthy” organizations and people enter the market. However, it looks like REITs alone will be sufficient to raise property prices.
The questions are:
• So what hope for the First Time Buyer? Well interestingly there is good news in all this gloom.
There will be a number of new financial products coming to the market that will help them buy their first home. It will be shared ownership and there are several variations but we expect upwards of 100,000 new home owners a year by 2008.
• These changes will take some time to introduce and to affect the market so any property bought now should see significant growth over the next 2-3 years.
The implication of these changes is that there will be more upward pressure on prices than downward. Therefore, if we are right, buying now looks a good deal.
© Joint Equity Ltd 2004 – Brad Bamfield
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Reproduction of this article is approved if you acknowledge copyright & provide a link to this site www.jointequity.co.uk
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