Self-Invested Personal Pensions
A Self-Invest Personal Pension Plan - SIPP - is a Personal Pension Plan that provides the maximum flexibility allowed to tax approved Personal Pension Schemes in the United Kingdom. The pension framework introduced on 06 April 2006 made SIPP's a lot more flexible, and the rules introduced then are broadly the ones in force today.
SIPP's came to wide attention during 2005 when it was decided that residential property would be an allowable investment within these plans. Suddenly, people (largely those who previously had no interest in private pensions, or had a negative view of them) were very interested in the thought of being able to purchase residential property AND get tax relief and freedom from Capital Gains. People were scraping together existing pension funds, and planned to use this to leverage further borrowings to use their pension fund to buy more property.
The whole situation was brought to a halt in November 2005 when the Chancellor announced that Residential Property held within a Pension Plan would not receive tax relief - so whilst you can now hold residential property within a pension plan, there is going to be little point in actually doing so.
The point that many people did not appreciate (or chose not to appreciate) is that Pension Plans exist solely to provide PENSION BENEFITS - no other reason - and tax relief is given precisely for this purpose. As soon as it became apparent that people were viewing SIPPs solely as a vehicle for property speculation, it was only a matter of time before this route was blocked. However, Commercial Property always has, and still remains, a legitimate investment for pension funds, including SIPPs.
So why bother with a SIPP ?
For various reasons, individuals may be unhappy with using conventional Personal Pension plans, due the fact that they are restricted to a range of funds offered by most insurance companies. Whilst many insurance companies now offer a wider range of investment funds that at any time in the past, many of these funds are quite similar, and have similar objectives. For instance, most UK equity funds will aim to marginally outperform the FTSE 100, and many fail to even achieve this.
However, experienced investors who run their own investment portfolios (or use a stockbroker to manage them) may wish to have the same freedom to invest their pension monies in the same way. Many people may wish to invest in investment trusts
or directly in the shares of particular companies, instead of being tied to insurance funds where they have no ability to exercise control of the investment strategy - beyond the ability of buying and selling these funds.
SIPPs, with their special flexibility allow you to take advantage of a much wider range of investment opportunities than the more traditional insurance funds. You may elect to invest in Bank Deposits, Stocks and Shares, Warrants, Gilts, Corporate Bonds, Second-Hand Endowment policies, Commercial Property or any of a number of other options. The pre 06/04/2006 rules explicity stated what type of investments were permitted. The new rules allow you to invest in anything that is not explicity prohibited.
However, this freedom usually comes at a price. SIPPs are more costly to run than normal personal pensions, as you will incur transaction costs (and possibly extra advice and professional costs) on top of the ordinary plan charges. However, this is relative to the size of the fund and the contributions you expect to make. i.e. for a pension fund worth hundreds of thousands of pounds, self-investment can provide diversification away from Insurance company funds, whilst the extra costs can be more easily absorbed by the fund.
If you decide to look at all the SIPP plans currently on offer, the choice can be confusing. However, it helps if you know what type of assets you plan to invest in, and whether you need any third-party management or advice in relation to the investment strategy.
On the whole, SIPP's fall into three main categories. These are:
- Hybrid SIPPs - usually offered by Insurance Companies
- Full SIPPs - offered by specialist SIPP administration or Trustee companies
- Stockbroker / Low Cost SIPPs
The hybrid SIPPs are usually a Personal Pension with the option of using additional self-investment facilities. Charges are kept low as long as the majority of investments are within the insurance company / investment company's range of funds. Should you choose to invest more widely, it is likely that initial and annual charges will start to kick in, along with transaction costs - and these may not be inexpensive. Effectively these plans can be seen as a halfway house for those who wish to dip their toes in the pond.
Full SIPPs are usually geared towards those who wish to be wholly self-invested, and especially for those who wish to invest in Commerical Property. Purchasing any property is expensive and time-consuming, and it is necessary that the SIPP administrators have experienced staff who can handle this type of transaction. The charges levied by these SIPPs will reflect the time spent administering them, plus an annual charge (usually between £300 to £500). The investment portions of these SIPPs can be managed directly by the individual, or subcontracted to a Discretionary Fund Manager, Stockbroker or IFA (who will usually levy another set of charges for their services). Therefore, whilst this can be more expensive than using a standard Personal Pension, large funds can usually absorb these costs and benefit from the potential for outperformance of standard insurance funds.
The last category of SIPPs are the low-cost variety, usually operated on behalf of execution-only stockbrokers. If you are the type of person who is investment aware, and buy and sell shares and other securities directly on a regular basis, it is possible to appoint an ‘execution-only’ stockbroker, and use your SIPP funds to buy and trade in securities. The costs of doing this are the stockbroker commission per trade (for most on-line stockbrokers, this is usually £10 - £15 per trade). Therefore, the costs of this will depend on how many trades you are likely to make per annum. Some people may build up a portfolio of investment trusts and trade infrequently, while others may actively trade the share of individual companies on a frequent basis. For a sizeable pension fund, this type of approach can bring economies of scale that make this even more cost-effective than a stakeholder pension.
Whatever type of SIPP you choose ultimately depends on how you plan to invest. If you choose the D-I-Y approach, then some prior investment experience would be necessary - i.e. if you already buy share directly via a stockbroker. If you wish to purchase property, then only the niche specialist SIPP companies can handle the complexity of these type of transactions.
It is worth keeping in mind that whilst a SIPP offers you the opportunity for your pension funds to make lots of money, they also give you the freedom to lose lots of money and decimate your pension pot - especially if you go down the D-I-Y route.
A final point to keep in mind is that SIPP plans are better suited for large funds (usually a minimum of £100,000), and are started by consolidating existing plans, or a large initial single premium. It is often not feasible to commence a new SIPP by paying small monthly contributions, as the charges levied will be wholly disproportionate and severly eat into the fund - this can be sometimes be achieved by using an execution-only stockbroker SIPP and investing, say, on a quarterly or irregular basis, but in this scenario, a conventional Personal Pension is probably the more appropriate (and simplest) route to go down.
What happens when you retire ?
At retirement, it is possible to use a pension fund withdrawal facility within a SIPP. In simple terms, this route would offer you the ultimate retirement planning flexibility for the future. This would allow you to keep your fund invested within your chosen spread of assets indefinitely whilst taking your income directly from the fund.
Due to the post April 2015 changes, the ability to pass on pension benefits on death means that commercial property held within a SIPP can pass between members of the same family over generations.
Overall, SIPPs operate under the same rules as other personal pensions. The only differences is what they can invest in. Previously, there was a permitted range of investments. Now, anything can be invested in that is not specifically excluded (usually these are either assets that can depreciate in value - and are therefore not 'assets' - indeed they are 'liabilities' in the true sense of the word, or assets in which the member is likely to derive personal benefit from). Assets that are excluded are:
- Residential Property
- Vintage Cars
- Works of Art
- Fine Wines
'Indirect Investment' in these assets are also blocked. For example, if a SIPP held 100% of the shares of a company that invested in residential properties, this would be viewed as if the SIPP had bought the properties directly. However, if the SIPP owned shares in a company where residential property only constituted a proportion of the company's assets, then this may not be prohibited.
There are other investments that could be considered questionable, so it would be wise to refer these to your local HMRC inspector for an opinion before you go ahead and make the investment.
PLEASE NOTE: If any of these prohibited investments are purchased via a pension scheme, an additional tax charge of up to 70% of the value of the investment can be levied. This will make investing in such assets an extremely undesirable option. It is the opinion of HMRC that they wish to block investment into assets which would probably be for the members direct benefit, rather than the benefit of the pension fund.
The other main changes relates to the amount that a SIPP can borrow when purchasing a Commerical Property. Before 06/04/2006, the old rules allowed a SIPP to borrow up to 75% of the market value of the property - the new rules will only allow for a maximum borrowing of 50% of the value of the PENSION FUND. This has significantly lessened the scope for borrowing, and SIPP plans will need a greater amount of initial funding before Commercial Property purchase becomes a viable option.
NOTE: This document is intended to provide a brief overview of the subject. It should not be read as a recommendation to use any particular product, as it does not take into account individual circumstances and attitudes.
SIPPs can be a useful tool for individuals such as professional investors, company directors, or people who require something different from a pension policy that can be purchased 'off-the-shelf'. However, along with this comes with a higher level of commitment (in both time and money) than for a normal personal pension plan. Anybody thinking about setting up a SIPP should seek professional advice to ensure that it is an appropriate route to embark on.
SIPP's have been affected by changes in pension legislation that took effect on 6 April 2006. Please refer to our page on pension simplification
for details of the general pension changes.