Buying to let with your pension not tax efficient

Kieron Bassett.
Kieron Bassett.

It has been estimated that 200,000 people will cash in their pension this year and around 32,000 are expected to use the money to fund a property purchase.

Many people are attracted to property due to its physicality in that it is something you can touch. For many buying a property from proceeds of a pension may appear to be a sensible choice, but is it when compared to the alternatives?

If you proceed to draw your £100,000 pension fund at aged 55 and you are, at this point, continuing to work with earnings of £45,000 per year, you will find that at outset you will not retain the full £100,000 for a house purchase.

The reason for this is that although the first quarter of the fund is tax free the three quarters that are left that are used to buy the pension are added to your taxable income for the year. Unfortunately as my example has just edged into higher rate tax the £75,000 that is left will be taxable at 40 per cent, taking £30,000 from the top line leaving our purchaser with just £70,000.

However, if you decide to press ahead with the reduced amount by lowering your sights from a house to a flat, there are other considerations such as the tax to be paid on the profit from rent which in our case is 40 per cent.

Whereas property funds that are held in pensions only become taxable when you start to make withdrawals. Also when you come to sell your flat in the future there is potential capital gains tax of up to 28 per cent after an annual allowance is used, whereas pension funds grow completely free of this tax.

You may decide not to sell your property in your lifetime perhaps because of capital gains tax, but you need to be aware that it will then form part of your estate with a potential inheritance tax liability that currently is charged at 40 per cent. Whereas pensions are completely free of inheritance tax with generally an attractive tax regime for survivors.

I believe that due to the pension changes having and holding a pension is now very attractive and it would need an extremely compelling argument for me to convert my pension fund to buy to let properties as it would just not be tax efficient.