Advisers are keen to get a grip on what clients can do to structure their financial affairs in the most advantageous manner but uncertainty makes life difficult when trying to choose the right plan from the right provider.
Some of this probably comes down to confusion regarding proposals still in the pipeline, including the treatment of protected rights contributions.
A recent poll by Merchant Investors suggested that nearly two-thirds of advisers are unaware that protected rights money can be self-invested or used to invest in commercial property.
What are the facts? The Department for Work and Pensions says: “Currently, the legislation permits a few insurance-based Sipps to hold protected rights while the majority cannot.”
Effectively, some insurers are able to allow clients to invest protected rights as they would their other Sipp money although it still has to be identified separately to comply with rules at the time when benefits are taken.
However, changes are afoot. Regulation of Sipp sales from last year has put the necessary safety net in place, allowing the DWP to look at loosening the restrictions regarding protected rights money. It intends to change the rules to allow all Sipps to hold protected rights money from October 2008.
This will not only benefit pension savers by allowing them to consolidate all their pension money in the Sipp of their own choosing but will also finally create a level playing field between insurance-based and trust-based Sipps.
Insurers are keen to make hay while the sun shines. They know that in a few mon-ths time, their advantage is set to disappear and comp-etition will get a lot tougher.
Like other trust-based Sipp operators, we know from talking to clients and their advisers that huge pent-up demand is likely to be unleashed when the change happens. We are awaiting the detailed proposals but protected rights cash accounts are now being made available by trust-based Sipp operators.
One estimate suggests that between £75bn to £100bn is held in protected rights pensions and up to 25 per cent of this money could move into Sipps. This will be driven by those clients who are keen to escape the current rules that usually mean running separate accounts and investment strategies, adding to the costs and complexity.
The scale of these figures also raises the question that if the insurers’ proposition has been as strong as they are trying to suggest, why have they not already attracted more of those billions?
Our view is that many clients, especially those high-net-worth individuals who have built up big protected rights funds over many years, have not and are unlikely to be attracted to the insurers’ offerings because of the limitations they impose.
With very few exceptions, insurers have been keen to take advantage of the excitement surrounding Sipps but far less keen to allow clients to benefit from the full range of investment flexibility, structuring their plans and fees to encourage investment mainly in their – lucrative – in-house funds.
Many of the myths surrounding Sipps have resulted from this divide between true Sipps which give clients all the freedom and flexibility allowed under the rules and the “Sipps in drag” sold by insurers which impose their own restrictions.
One good example of this is borrowing within a Sipp, typically to buy commercial property. Before A-Day, to buy a £300,000 property, the Sipp was allowed to borrow up to 75 per cent of its value, or £225,000, leaving the client to fund the other £75,000. The client could also take out separate arrangements, such as bridging loans, to meet any extra costs.
However, A-Day changes restricted total borrowing to 50 per cent of the Sipp’s net assets, with the side effect of sending the amount of tax relief being claimed soaring due to individuals having to pump more money into their funds. In simple terms, to buy a £300,000 property, the client now needs to have built up a Sipp fund of at least £200,000 to allow them to borrow the £100,000 needed to complete the deal, including covering costs such as fees and stamp duty.
Commercial property investment is common in Sipps but the extra complexity and specialist administration means that many insured Sipps simply do not allow it. Those that do may limit it to shops, offices or warehouses, drawing the line at other kinds of property such as museums, halls of residence or nursing homes.
Clients can face a layer of extra charges and are forced to use insurers’ recommended panels of lenders, solicitors, surveyors, property managers and so on. Members of those panels are chosen in the interests of the insurers, rather than the interests of the client. The end result is that the Sipp becomes far less self-invested by the client and far more insurance company-directed.
Sipp rules allow borrowing from many different sources, including individuals or companies. However, most insured Sipps restrict clients to borrowing from banks.
Loans to a Sipp can be used to invest in a wide range of assets but many operators limit this to borrowing for property purchase. Direct investment in residential property can trigger hefty unauthorised charges but it is possible to invest in residential property at home or overseas via genuinely diverse commercial vehicles – again an area deemed off limits by many insured Sipp operators.
Every restriction is a step away from the true Sipp ethos, creating more work for an adviser to study the small print of what is and is not allowed and how this might impact on the client in future.
Two other main areas of uncertainty are investment in unlisted shares and in specie contributions, both of which most Sipp operators do not allow. Again, these come with added complexity which requires careful admin but the rules put in place by HM Revenue & Customs are clear and we believe are there to be used to the benefit of clients.
Advisers do face a tough job looking behind the fine details of individual Sipps to see what the operator will or will not allow. The fact that we see a constant stream of Sipp transfers from insurance companies suggests to us that clients presented with investment opportunities often find their hands tied, forcing them to transfer in order to implement their chosen investment strategy.
How many are sitting tight in the mistaken belief that it is the Sipp rules rather than the individual operator’s restrictions stopping them doing what they want to do?