The last government made changes to the borrowing rules for UK Registered Pension Schemes which effectively excluded the purchase of commercial property.
The changes were introduced as a precursor to enabling residential properties to be permitted as a pension scheme investment. The residential property changes were never implemented and a distortion of the pensions investment market has endured.
Commercial properties not only include industrial and warehousing properties but also smaller properties such as pubs, shops, Post Offices and farms. In rural areas this has had a damaging effect in communities where the social infrastructure is currently under threat.
This paper proposes that the regulations should revert to a similar position to that pertaining pre 2006. The changes proposed would be revenue neutral for HM Treasury but provide an additional source of funding for smaller rural businesses.
Background
In April 2006 the borrowing rules for UK Registered Pension Schemes for the purchase of commercial property were amended. The gearing rules introduced for personal pensions in 1989 allowed for borrowing of up to 75 per cent of a property's value enabling the pension scheme to pay a 25 per cent deposit which mirrored standard commercial terms and was very popular. The revised gearing rules were drastically reduced to 50 per cent of the pension scheme value. See Appendix A. The effect of the regulatory change was to effectively prevent the purchase of commercial property by a pension scheme as the required borrowing was no longer available and only the very largest funds were able to benefit from this attractive savings option.
The then government's rationale for the legislative change was that residential property was to be permitted as a pension scheme investment and much higher levels of tax relieved pension contributions were to be allowed. It was feared this would lead to an overheated property market. Since that time residential property was not permitted in a UK pension scheme (without very punitive tax charges) and tax relief on pension contributions has been drastically reduced.
As a result there is now no legitimate reason for not reinstating the previous limit on pension scheme borrowing which had proven to be so popular for so many years.
The Effect
Research by James Hay indicates this has had a negative impact on the funding of commercial properties in rural areas. Farms, public houses and shops all qualified for this type of investment under the former regulations. Whether it was a retiring farmer funding the transfer of the family farm to the next generation and securing a pension via the monthly rental, or a local resident providing up front lump sum funding to secure the future of a village shop or pub, the scheme provided a stimulus to the property market and funding for entrepreneurs, small businesses and social enterprises.
According to the Reed Business Information Farmland Market Report 2009, in1945 1 million acres of farmland were sold. By 2008 this had dropped to 100,000, a 90% drop in supply. One major reason is the inability to obtain finance.
Department for Environment Food & Rural Affairs (DEFRA) figures for 2007 show that gearing on agriculture in the UK represents only 6% of its total value, whereas Bank of England figures for August 2009 showed that demand had increased by 6%.
The recent economic downturn has added to the problem. The Bank of England's report on trends in lending for September 2010 showed that since the start of the financial crisis the rate of growth in the stock of lending for real estate fell from 20% to minus 3%.
The lack of access to funding is a major contributing factor to the decline in the quality of rural life. The Campaign for Real Ale (CAMRA) claims that nationally 39 pubs are closing a week. Many are in rural communities. Yet CAMRA's own research shows that 84% of people believe a pub is as essential to village life as a shop or post office.
Conclusion
Reverting to the previous regulations would be revenue neutral for HM Treasury and would encourage general savings for retirement, something on which the coalition government has placed great emphasis.
In July 2010 Treasury Financial Secretary, Mark Hoban, said "The Government wants to foster a new culture of saving in the UK. This means that saving has to become more flexible and attractive in order to encourage people to take greater responsibility for their financial future. Nowhere is this more important than in planning for retirement."
In addition, it could provide much needed funding to secure local businesses and community infrastructure in rural areas.
Even if the historic 75 per cent of property value borrowing limit was not fully reinstated a shift to a lower multiple would go some way to restoring the balance.
Appendix A
A simple example can be given:
Pre April 2006:
Pension Scheme value: £100,000
Maximum allowable borrowing: £300,000
Property purchase price: £400,000
Post April 2006:
The gearing rules have been drastically reduced to 50% of the pension scheme value. Again a simple example can be given to illustrate this:
Pension Scheme value: £100,000
Maximum allowable borrowing: £50,000
Property purchase price: £150,000
The legislative change was set out in Part 4 of the Finance Act 2004 with an implementation date of 6th April 2006.
About James Hay
James Hay is the UK's leading SIPP provider* and part of the IFG Group plc. James Hay's reputation is based on our proven ability, over more than 25 years, to meet the service needs and expectations of Financial Advisers to whom we offer unrivalled technical and professional support.
Our unique expertise and award winning service have made us the UK's leading specialist provider of services for those who wish to control the management of their investment and pension portfolios.
James Hay is part of a highly diversified financial services company specialising in the provision of independent financial advisory and administrative services. Headquartered in Dublin, Ireland, IFG Group plc has major operations in the UK, Isle of Man, Jersey, Cyprus and Switzerland. IFG Group is listed on the Irish and London Stock Exchanges.
For further information contact:
Richard Mattison, ACII, Dip PFS
Director
James Hay
4th Floor
Boundary House
91-93 Charterhouse Street
London
EC1M 6HR
020 7553 4900
07881 956 534
[email protected]
*Based on AUA. Source: Money Management/Mintel December 2009
