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With house prices rising again, contractors may be tempted to forego a pension in favour of relying on their home as an investment for retirement. What follows is a realistic look at the options open to those contractors who have no conventional pension but who are instead relying on property to help fund retirement. House prices have risen for the last six consecutive months, reviving the old notion that your house funding your retirement could become viable again. This appears to be a risky strategy and may prevent you from making use of valuable tax breaks available on the more conventional investment routes. How to make property fund your retirement Trading down Selling the family home and downsizing to a smaller property could release funds to be used for retirement. In doing so you are able to pay off any outstanding mortgage and, thanks to what is known as primary residence relief, you do not have to pay capital gains tax on any profit. You can then use the cash to set up an income producing investment portfolio or can buy an annuity. However, as recent experience has shown, property prices can go down - as well as up - so you may not be able to sell your property or you may not get as much out of the property sale as you had hoped for. Selling an average priced detached property and buying an average priced terraced property for example, could release as little as £130,000, which would give an estimated income of just £6,500 a year. Take this route, and you should also consider whether you would be happy to live in a smaller property just at a time when you are likely to be spending so much more time at home. Equity release Given the current mortgage drought, releasing equity is not as easy as it once was, but there are still options to release cash from your home while still remaining resident in it. One is to release cash by taking out an interest only mortgage on the property; the second is to sell your property or a percentage of it to the equity release company in exchange for either a lump sum or a monthly income. However, after working hard to pay off your mortgage, handing over part of your biggest asset can be a difficult decision to make. Your property will always be conservatively valued by an equity release provider and you can only access a proportion of the value which will further limit the amount that you can release. You also need to be aware that equity release will impact on any inheritance that you hoped to pass on, and can also dent any future plans you may have had to move into sheltered accommodation. Buy-to-let Buy-to-let grew beyond expectations during the housing boom and many contractors have been building property portfolios as an investment for their future. This form of property investment can be very beneficial, as a rental property could provide a monthly income from tenants or a lump sum if you can sell with a profit. Certain expenses can be offset against rental income but you will have to pay capital gains tax, currently standing at 18%, when you sell the property. As with any investment, there are risks involved in buy-to-let. Time without tenants could prove very costly, particularly if you still owe money on the property when you retire, made more likely by many buy-to-let mortgages being ‘interest-only.’ And of course, there is also no guarantee that you will sell the property at a profit. Beyond bricks and mortar: How to provide for your retirement Whilst returns on funds invested into property have been high earlier in the decade, in recent years it has become increasingly difficult to make any money in this market. Although all retirement planning should be geared towards long term investment, it is important to compare all available options for investing for your future. Pensions Pensions represent one of the few substantial tax breaks still available. Since the pension’s simplification rules were introduced in 2006, most contractors can invest virtually all of their annual income via an employer contribution. In a post-IR35 world, and with income sharing again under the spotlight, it could be argued that pension investment represents one of the few remaining areas of tax planning actually encouraged by the authorities. It’s not just limited company contractors, which typically operate outside IR35, who can benefit. Contractors who use a PAYE umbrella company may also be able to take advantage of a salary sacrifice arrangement to dramatically reduce their tax bill. ISAs Working well either on their own or alongside a pension, equity or cash-based Individual Saving Accounts offer an effective alternative for retirement planning and benefit from tax breaks on up to £10,200 each tax year. Unlike a pension fund which can’t be accessed until you are aged 50 or over, an ISA can be accessed at any time, offering you greater flexibility from your investment as well as substantial savings tax on profits. You can invest in monthly instalments or as a lump sum, yet in the current climate it may be better ‘drip-feeding’ your investment to exploit fluctuating markets. Inheritance For some there is the promise of a substantial inheritance that could provide a further boost for your retirement. However, it is worth remembering that an inheritance that surpasses the nil-rate band of £312,000 will be subject to inheritance tax at 40%, which could have a substantial impact on what you receive. With the cost of long term care for the elderly increasing at an alarming rate, there is also the danger that any inheritance could be substantially reduced as a result of nursing home fees. Property V Pension – Need to Know: There are still many misconceptions regarding retirement, with far too many of us believing that we can rely on a property to fully fund our old age. For contractors, tax issues are crucially important and that is why pension investment should be given priority for this period of your life. We suggest that the answer to retirement planning is a diversified portfolio of cash, equities and property, but also that your house is primarily a home and is not the guaranteed and liquid asset that some believe. Tony Harris is the managing director of ContractorMoney , an independent financial adviser that specialises in offering financial solutions tailored to IT contractors’ individual circumstances. Nov 17, 2009 Email this article Printer friendly page Previous Page
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