Syndicated property investment via a pension
When investing in property via a pension one option to market that may appeal to HNW or sophisticated investors is a property syndicate, says Martin Tilley, director of Technical Services, Dentons Pension Management
Alongside cash, bonds and equity, property is one of the four major asset classes and some of its investment criteria have proved particularly popular in the recent years of low interest rate returns and low bond yields.
Property investment through a pension arrangement can be particularly attractive in view of the tax exempt status afforded to pension funds. Capital value increases are exempt from capital gains tax and rent returns avoid income tax. Whilst the myth that property is a non-correlating asset to other asset types was firmly dispelled in the credit crunch of 2008/9, current yields, which of course depend upon security of tenure, tenant and type of property have been and are likely to remain above cash yields for the foreseeable future. Expected interest rate rises, however, may slow what have been buoyant capital increases since 2009.
Traditional routes to market
Access to property through pensions is in the very most part restricted to the commercial property sector. There are very limited circumstances in which residential property can be held in view of the HMRC’s designation of the sector as a taxable asset. For the majority of investors the only route to access would be property funds available through conventional insured or platform based personal pensions and these of course have their merits. Fund characteristics offer diversification, reducing risk and pooling of funds to access investments that would otherwise not be viable for the smaller investor. In an asset class that is illiquid, funds may also offer greater flexibility on disinvestment although it must be remembered that the underlying assets are still illiquid and sales of units in the funds are permitted by liquidity obtained through rental yields and by matching new investor’s contributions against outgoing investors cash needs. In periods where disinvestment exceeds new investment, funds will often delay and prevent exits for up to six months. Many of the established property funds are now very large and some would say over diversified and with the need to retain an element of cash for liquidity, returns can be watered down by the low to non-existent interest returns.
The other end of the spectrum is investment directly in commercial property. Such action of course can increase risk. Exposure to a single property asset could become a huge liability in the event of a tenancy void as ongoing rates and insurance premiums will still need to be paid. To avoid the risk of void, searching out a strong tenancy of perhaps a strong high street name or even a Government agency would be preferable but these organisations tend to occupy larger units and thus require substantial equity, most often out of the range of individual pension fund investors.
Reductions in annual allowances and borrowing reduced from that previously available have prevented the build-up and gearing of pensions that was available ten years ago.
Property syndicate option
Perhaps a halfway house and one that might appeal to the higher net wealth or sophisticated investor is a property syndicate. These can offer a way to spread the risk and gain access to higher-priced commercial property. Syndicates are usually formed by surveyors or property managers and can be designed to incorporate either one large property or more usually a group of perhaps three of four properties. The syndicate constructors will package together the property investments taking into account tenants, leases in place, rental review dates and expected disposal dates and offer a stake in the investment in tranches of say £50,000 each. Aside of any multiple of properties within each syndicate, such a modest investment level allows individuals to diversify their investment still further by investing in several syndicates perhaps with different expected conclusion dates. A syndicate can be formed for a single project and dissolved on completion of the project, or it can be a ‘perpetual’ syndicate, which allows money to be carried forward into additional development projects.
The investment proposal can include gearing provided individual pension limits are not exceeded. If gearing is in place, this will be serviced by the rental income meaning cash deposits do not build up watering down the rental returns.
Syndicates can vary in their structure although care should be taken to identify tax transparency as some vehicles, such as Limited Liability Partnerships, are not conducive to pension wrappers since each partner’s return in the partnership can be treated as a trading gain and whilst investment gains are exempt within a pension fund, trading gains are taxable.
The structure will also determine the regulatory framework. Even though most syndicates will have the hassle of the day-to-day property management delegated to a property managing party, the syndicate members will still need to be involved in decisions surrounding investment changes and, in particular, when the properties might be sold. This is one of the key criteria preventing these vehicles being categorised as collective investment schemes. They are still unregulated, of course, and as such will be suitable only for clients understanding the risks associated with such investments.
Whilst the underlying asset will remain illiquid, by breaking down the asset value into smaller tranches liquidity is aided. It may become necessary for one or more syndicate members to leave the group. The syndicate agreement will usually make provision for the departing individuals share to be offered first to other syndicate members but otherwise then to the open market. An investor should not however participate in the deal unless they have a realistic intention of remaining invested for the proposed duration of the syndicate.
Finally, as with all packaged investments, a keen eye should be kept on costs. Aside of the usual property acquisition expenses and taxes, there will likely be costs for construction of the syndicate itself, for the property management, administration and valuations.
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