Does property make sense as a pension punt?

Landlords are exiting the market in droves. Rent caps, high tax and heavy regulation combine to make it feel like a mugs game for many. But if things are that bad, why are others continuing to invest? Maybe they know something you don’t.

Mixed signals

On the one hand, figures from the Residential Tenancies Board (RTB) show that between 2016 and March this year, the number of private landlords dropped by 5,657. That’s despite record rents. More are walking away every year.

“The old fashioned ‘buying a rental property’, that isn’t in trend at the moment. It’s very much out of trend,” says Marian Finnegan, chief economist with Sherry FitzGerald.

“Our figures show a pretty significant outflow of private investors – 12 per cent of our sales in the first six months of this year were to investors. In Dublin, it was 10 per cent. In the 1990s, that would have been around 18-20 per cent.” Some 32 per cent of those who sold through the estate agent say they are selling off their investment properties. Covid-19, which has frozen rents and brought an evictions moratorium, is likely to add to the stampede.

What sold for €400,000 in Bray, Beaumont, Dublin 4 and Co Clare

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What will €400k buy in Dublin and Wexford?

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Sleek finish at improved Sandymount semi for €2.25m

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But on the flip side, others are continuing to invest. BidX1 says its online property auction at the end of June saw 750 register to bid. Users of the site tend to be cash-ready investors, 90 per cent of whom are Irish, it says. The highest bidder is legally obliged to complete the sale, so bids indicate a concrete commitment to purchase.

It estimated that the total liquidity available at auction was €92 million, calculated by totalling the highest offer from each unsuccessful bidder. “580 under-bidders walked away empty handed, all of whom are actively seeking to invest in Irish real estate,” says head of property, Jonathan Fenn.

Pension punt

The answer to this mixed picture could be pension. There are a number of self-administered pension structures that enable you to buy property through pension. The big advantage is tax.

By purchasing a property in this way, any rental income less expenses can be pumped back into the pension and reinvested. Any returns are also tax-free. If you decide to sell the property, there is no tax on gains.

Catherine Brennan of intelligentproperty.ie says there is increasing interest in property as a pension punt. Over 40 people are doing her online training course, which teaches novices how to do it. "If you buy as an individual, you pay half of the rental income over in tax. That's not a great return when you consider all the risk.

“It’s a complex area, but the people who qualify can buy the property within this pension structure which means all of their rents amass tax-free until retirement, so that’s 50 times more attractive.” You can also borrow through self-administered pension; some banks are keener than others with limits ranging from 50 to 70 per cent loan to value.

Aengus Burns is a partner at Grant Thornton and a pension trustee; he sets up and administers Small Self-Administered Pension (SSAP) trusts, which are often used for tax efficient direct property investing.

He gives the example of a coffee shop owner. Should they, for example, amass €100,000 plus in their business from trade, rather than taking that as salary where €52,000 goes to Revenue, they instead pay themselves a small salary to live on and put the €100,000 into a pension trust.

There is no benefit-in-kind charged on that money, so the full €100,000 goes straight into the pension trust with no deduction of tax, so now they have twice the amount of cash available to buy a property.

Using that pension trust, the coffee shop owner can buy an apartment for €100,000. If this yields €10,000 net in rent, there will be no income tax to pay on this. If however they had taken the full €100,000 in salary you would just have €50,000 to buy the property and they’d have to pay half of the €10,000 net rent to Revenue every year.

And there’s more. “If the value of the property went up by €50,000 and you sold it in the pension trust, there is no capital gains tax, so the full €150,000 comes back in as cash and off you go again and you buy another one,” says Burns.

Who’s doing it?

“Some would have a company, but a lot of them would set up a company just as a vehicle for this. That’s by far the most tax efficient way,” says Catherine Brennan. It’s popular amongst company directors or the self-employed and some PAYE workers do it too.

For those well remunerated in senior management positions in large organisations, it can pay, says Burns. “They are looking at a bonus of say €50,000 and saying, ‘Do I really want to hand over €27,000 to Revenue, or will I put that straight into a self-administered pension and go off and buy property?”

Large businesses with big group pension schemes may not be keen to facilitate different pension arrangements for different employees. Senior PAYE workers in smaller businesses may have more luck, he says. For sole traders, a self-administered Personal Retirement Savings Account (PRSA) is possible, he says.

“Most usual is a Defined Contribution Occupational Pension Scheme where an employer makes contributions directly to the SSAP. This could be your IT professional using his own small contracting or consulting company where he is an employee of same, it could be an employee of a sole trader, an employee due bonuses from his employer or regular pension contributions in the normal course.”

Catherine Brennan sees a lot of 30 something males with good jobs. “A lot of them are in construction-related jobs like quantity surveyors or engineers, so they have an understanding of the cost of building and maintenance and everything. Some are PAYE workers and their idea is to migrate to property full time in a five or ten year period from when they start.”

Where to buy

Those investing are not necessarily looking for a property that will increase in value, but rather one that will provide a high yield. “It tends to be more of a play on yield, so it’s probably more suited to high yield, high return investments than investments where you are looking for a capital gain,” says Burns.

“We’d be a bit more biased towards your 10 per cent yield. That’s apartments in regional cities and multi-room houses on the outskirts of Dublin with the value of the assets being lower so €50,000 up to a max of €300,000,” he says.

“The idea here is not that you love property, but to build up a significant level of assets in order to fund your retirement. A pension trust is just another vehicle that happens to be tax-free where people are just building up wealth.”

Investors tend to have a ‘reasonable amount’ of cash coming to the market, says Brennan, but they need to be clear about the objective. “The idea is that you are meant to be a ‘buy and hold’ landlord. The idea isn’t that you buy, renovate and sell.”

Yields are very strong at the moment, says Burns. “You can expect net yields after management charges on apartments of 8 per cent. We have clients buying in places like Tallaght and Santry for €300,000 - they are buying four and five bed houses and they are getting €35,000 rent. That’s north of 10 per cent yield. That’s unheard of compared to back in the day when property was very expensive and yields were low and people were happy with two or three per cent, now they are getting net 8 - 10 per cent.”

Catherine Brennan says areas such as Cork, Limerick, Galway, Waterford and Carlow are popular, with prices lower and yields higher than in Dublin. Some investors are very hands on and rent the rooms individually in the style of co-living. “Renters are getting older. They do their relaxing online and they don’t like to sit and watch television together like renters used to.” On those types of investments, people are making 15 per cent plus, says Brennan.

Show me the money

When it’s time to retire, how do you get your money? You can access the pension from age 50 or older in one of two ways, says Burns.

“Like any pension, you can draw down a tax-free lump sum of 25 per cent and then roll the balance into what’s called an approved retirement fund (ARF). You can’t put any more money into it, but you can take it out. The ARF is it’s also tax free, so long as you leave money in the ARF, it continues to grow until the day you die, tax free.”

If the assets are valued at more than €2million when you retire you must pay a 40 per cent excess charge on anything above that threshold.

Risks

Ten years ago, the risk was people paid too much for a rental property, taking on too much debt. “But the reality now is that most rental properties around the country are still way below the replacement value,” says Burns.

“You can still buy an apartment for €60,000 or €70,000 and it costs €140,000 to build them.” Of course there is the risk a tenant stops paying rent, however with more than one rental property, landlords can diversify.”

There is a real risk too that the Government will change the rules. Strict new EU laws – the IORP II directive – were due to be enacted earlier this year making things more restrictive and less attractive. But then things went quiet and now there has been a change of Minister. While some say the new regulations seem to have slipped as a significant threat, it’s important to take professional advice before taking the plunge.