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Hard numbers and harsh truths in property vs pensions debate

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The provocative comments from Bank of England chief economist Andy Haldane that property trumps pensions when it comes to retirement planning have reignited an age-old debate.

The comments come off the back of worrying research from Citizens Advice that suggests large numbers of consumers are eschewing pensions in favour of bank accounts, and after Money Marketing columnist Nic Cicutti argued last week that a consumer pensions boycott was underway and set to continue.

Taken together, they point to at best a general air of malaise among consumers about pensions, at worst outright apathy.

Money Marketing has comprehensively crunched the numbers on property versus pensions over the past 40 years to introduce hard facts on returns into the debate.

We also speak to providers, consumer champions and advisers about whether they agree pensions are falling out of favour with savers, and what can be done to dissuade consumers from the notion that it is property, rather than pensions, that should be core to their retirement plans.

Popularity contest

Figures from the Council of Mortgage Lenders show the number of buy-to-let loans has been steadily increasing since the financial crisis, with a more marked increase over the past three years.

Changes to stamp duty imposing a 3 percentage point surcharge on buy-to-let and second homes have dampened appetite somewhat since they came into effect in April, but buy-to-let portfolios continue to make up a significant part of the housing market.

The Financial Inclusion Centre director and former FCA board member Mick McAteer says: “Pensions have been falling out of favour with consumers for a while – this is evident given the rise in interest in buy-to-let over recent years.

“The pensions industry’s legacy of misselling has left a lack of trust and this has been around for some time. It is early days but the pension freedoms are very likely to provide a boost to the notion of property as an investment, as people are much more driven and attracted to tan-gible assets.”

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Architas investment director Adrian Lowcock agrees there is a disconnect between the esteem that pensions are held in among the financial services industry and the consumer perception.

He says: “There is more of a realisation in our industry that pensions are just not popular with many people. In more recent years, pensions have been seen as the preserve of the very wealthy as generous tax relief and contributions allowances have meant that some people have built up significant pension pots.  They are still viewed as complex and treated suspiciously.”

Lowcock says pension freedoms were aimed, in part, at driving engagement with pension savings. But he says when this is set against the stream of policy change over recent years the net effect is consumers end up deterred from saving into pensions.

He says: “The constant tinkering and changes to the lifetime allowance, contributions and rumours of changes to tax relief have undermined confidence in the system. Pensions have become a political battleground and the poor condition of state finances means many suspect pension benefits could be removed in the future and pension pots could be raided.  An unlikely scenario, but it does put people off.”

But not everyone is convinced that consumers are shunning pensions en masse.

Aviva head of financial research John Lawson says: “Pensions are more popular than ever particularly due to the unprecedented success of automatic enrolment. In terms of contributions coming into pensions, the amount of money being paid has never been higher. The number of people actively saving in a pension is also at a record high. Some wealthier customers have stopped funding their pension but that is not because pensions have become unpopular, rather because the annual and lifetime allowances make other forms of saving more tax-efficient for this population of savers.”

Tisa policy strategy director Adrian Boulding argues consumers’ preoccupation with property and buy-to-let as a vehicle for retirement is partly down to the industry’s failure to articulate the benefits of pensions.

Boulding says: “Consumers tend to have very short memories. Property prices have gone up a lot over recent years but given the new tax obligations with buy-to-let, it has become less attractive as an asset class. In addition, people need to remember what goes up can equally come down. For example, we saw property prices in Ireland collapse during the crisis. As an industry we have been guilty in regards to not shouting enough about the benefits of pensions. Property can be a poor alternative to a pension, too, given it is very inflexible and an illiquid asset class.”

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He adds: “We need to display the strong points of pensions – the key thing is to communicate this. In the industry we know the benefits of pension saving but we take that for granted as not all of the public feel the same. We need to make pensions, and their benefits, easier to understand.”

Unsustainable returns

In plugging the benefits of pensions, advisers have to contend with the widely held and often unchallenged notion that house prices will continue to rise.

Lawson says on top of the clear tax advantages of a pension, returns are also comparable for pensions versus property. He says: “While residential property has produced strong returns as an asset, both in terms of rental income and capital growth, the inability to hold this asset inside a pension means that direct property investment is significantly less tax efficient than investing in a pension. Pensions allow investment in equities and commercial property, asset classes which have produced similar long-term returns to residential property. It has therefore been possible to get attractive returns and tax efficiency by saving in a pension.

“Nevertheless, residential property is a useful asset in retirement planning because of the strong British tradition of home ownership, particularly among older savers aged 45-plus. People who have chosen to save via home ownership now have the option of releasing some of the equity that has built up as a result of the strong growth trend in residential property prices. As a consequence, there has been strong growth in the use of equity release products, particularly lifetime mortgages.”

Lowcock argues that although property returns look attractive on the surface, he does not expect house prices to continue rising exponentially. He says: “The returns on property over the last 20 years have been pretty impressive so the benefits have outweighed the costs. However, I cannot see a situation where property will continue to perform at that level.  This is really the point: if consumers are able to buy a property they should live in it and then diversify, using their pension, as no one can predict which asset class will be the best performer over the next 10 years.”

£850,000
Size of pension pot that could be achieved for the cost of an average house

£692,000
Comparative value of the average UK house after 25 years, based on the value increasing 5 per cent a year

69%
Proportion of adults who own a home worth more than their pensions

46%
Proportion of adults who see property wealth as key part of retirement income planning

3.87
Multiple of house price values as at the end of 2015, compared with the previous 20 years

40
Number of years over which pensions beat property in terms of returns

Source: Architas, Aviva, Danby Bloch

Turning tide?

Yet there are clients who have been convinced by the argument that pensions are their preferred vehicle for retirement saving rather than rising house prices and an ever-expanding buy-to-let portfolio.

Rowley Turton director Scott Gallacher says many who choose property over pensions are likely to be unadvised.

Gallacher says: “If anything we’re seeing it the other way around, as I have been contacted by several potential clients over the last few months who have fallen out of love with property due to the low returns, increasing tax issues and problems with tenants.

“It also must be remembered that when the general public think of property investment they are thinking of buy-to-let and this is only available to a relatively small number of people with significant savings available to make up a sizeable deposit. Meanwhile, pensions are practically available for anyone with a £1 to put away.

“Pensions are now in vogue with our clients. It sometimes takes a little client education but generally our clients can see the huge tax advantages and financial planning opportunities that pensions now offer, especially in terms of passing wealth down the generations.”

Fairey Associates managing director Ed Fairey says: “Investment returns from property have been very good. But the tide is starting to turn in the wake of higher stamp duty costs and the removal of tax relief. Investors in property are starting to realise it is not the liquid asset it once was. Post-credit crunch, Britain is looking much more like the continent, as ownership levels are down.

“Legislation is turning against would-be landlords but there will always be people who want to own an asset class that they understand more than equities and bonds.”

Fairey says the firm still has clients who are more interested in property than pensions, and in some cases those with less money are more comfortable with property.

But he says although some consumers may tend to agree with Haldane, there is still no excuse for his comments that property is “almost certainly” better for retirement than pensions.

Fairey adds: “It is the kind of irresponsible comment one expects from senior politicians and policymakers – they are always too fast to indict one area. Some people would not be suited to property at all.”

Gallacher says advisers need to explain the role of gearing in buy-to-let – and the inherent risks.

He says: “Advisers need to continue to educate both our own clients but also the wider public, to try and get the message across that pensions are the key retirement planning vehicle.”

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Comments

There are 5 comments at the moment, we would love to hear your opinion too.

  1. As Alastair Cunningham observed, clients never take into account the “gearing” of their BTL investments compared to pensions and clearly when markets have done well, this gearing magnifies the returns, especially in ultra low interest rate environments and with the perfect storms (positive winds) affecting house prices over the last 25 years.

    However if you look at the reality now, to believe that prices can continue to rise at any significant rate would deny all reality, because if nothing else vast swathes of the potential buyers are priced out of the market.

  2. Firstly, it’s apples and pears for so many reasons – the risk, the difference in diversification, the need for gearing, the tax position (and the ability to manage it), the costs associated, the liquidity, the lack of regulation etc etc.

    Comparing property to any non-geared investment is in my view pointless as it is ignoring a significant ~(typically the majority) element of the transaction – debt and the risks it brings.

    Also, don’t forget, property has had a significant bull run over the last circa 20 years and is now subject to ever greater political interference and taxation and therefore I feel that the ‘past performance’ warning is particularly pertinent to bricks and mortar at this point in time.

    We know there is under supply and we also know affordability is an issue in the wider market (if rectified either /both should see falling prices) and Government policy has started to address it. Furthermore, Local Authorities are tightening the screw on rent payments which in turn tightens the financial viability for landlords.

    With hindsight, 20 years ago, property was a great investment. I suspect most professional advisers would be cautious in predicting the same for the next 20 years. But you never know…..

  3. When you crunch numbers the following I hope is taken into consideration.

    1. Returns from pensions are based on equity investing, so much depends on the construction of the portfolio and what precisely it holds and how it has been managed. Switching and changes can be made at little or no cost. You can’t move the property from one area to another, or change a flat into a house without significant expense.

    2. Yes there are management and adviser charges on a pension, but how does this compare to stamp duty, solicitors’ costs, survey fees, lenders fees and in many cases mortgage broker fees. Ongoing there are the maintenance costs and possibly management charges if you use them. Then there are the costs of lease contracts and the danger of voids. (True the value of equities can fall as well as rise and property prices are not guaranteed to always go up)

    3. Pensions attract tax relief, which BTL does not

    4. You are not geared when contributing to a pension (at least for the vast majority). But the vast majority are geared for BTL. How well does the rent cover the expenses? Too many are just predicated on the rise in property values, which an only be realised on a sale – which then has another round of costs. (Estate Agents &, solicitors)

    5. There is no CGT on a pension

  4. @ Harry

    ‘But the vast majority are geared for BTL’

    That is not true. Kent Reliance building society commissioned research which showed 66% of all buy to let property in Uk is mortgage free (Kent Reliance buy to Let Britain report issue three)

  5. Its obvious that the figures did stack up for buy to lets which is why Osbourne decided to tax the living hell out of people that had dared to not invest all THEIR money in UK equities on a long term basis.

    A 200k pot should provide a single annuity around the £11-000 per annum mark.

    A 200k property should provide a monthly income of £900 minimum. £1600 a month before Osbourne’s stealth tax as client would of had four, rather than one outright.

    The rental income will rise and you can sell up and buy anything you like as you still own the capital as the trade off for not getting the tax relief credit.

    Not saying one is better than the other, but both have their advantages and disadvantages and only one option provides true flexibility.

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