WHAT IS A SIPP

As the name suggests, a Self Invested Personal Pension (commonly referred to as a SIPP) enables individuals to invest into a pension for retirement and their own decisions about the investment options held within or, in most cases, have access to greater investment choices when dealing with financial advisors.

In a nutshell, a SIPP carries the advantages and disadvantages of any other UK based personal pension scheme, except that in regular personal pension plans where the options for investments are limited to those available through the pension provider or fund manager. With a SIPP, you are free to choose which funds you put your money into – or even simply place cash.

There are a number of benefits as well as drawbacks to this option and we will look at these below, taking into account how a SIPP is managed compared to other UK pension schemes.

PENSION SCHEMES

Pension schemes are essentially wrappers which follow a set of rules and contain one or more investment funds. Pensions come in a range of shapes and sizes including (but not limited to) Defined Benefit Schemes, State Funded Schemes, Final Salary Schemes and QROPS – with QROPS being specifically for people who no longer live in the UK but now subject to an onerous 25% transfer tax if residence is outside of the EU.

Pensions carry certain tax advantages over traditional savings, but also follow the specific guidelines set by HMRC as to how they can be used. A SIPP is no exception.

One of the main tax advantages of pensions is that the money which is paid in can be done so before income tax is taken off, meaning that if you wanted to pay £100 into a pension scheme and you were a basic rate tax payer, in real terms it would only cost you £80 as the remaining £20 would, in essence, be paid by the government. The higher the rate of tax you pay, the less it costs to pay into a pension scheme.

Funds held in a pension are typically available once the holder of the pension reaches 55 years old, but can sometimes depend on the type of scheme. Once you decide you wish to take funds from your pension, you are able to take it in lump sum(s) – where the first 25% of each lump sum is tax free, or as an income over a regular period.

Any money drawn from a pension is considered as income, and is taxed as such. Therefore, whenever you take money from a pension, you should seek advice beforehand to ensure that you are doing it in the most tax efficient way.

WHO MANAGES A SIPP ?

As previously mentioned, unlike other personal pension schemes a SIPP can be managed by the investor with his/her Adviser (trustee permitting) and not a fund manager. Therefore it becomes the individuals’ responsibility with assistance an Adviser to make decisions about what funds to choose. This means that it is highly recommended that only those with investment experience, or at least has a good understanding of investments, should really consider a SIPP.

Key to everything is understanding that an investment can both increase and decrease in value, and in extreme cases, it is possible to lose everything. It is also important to understand that, while there may be short term highs and lows, long term performance is far more important. As such, if you are kept awake at night by the performance of investments while you are asleep, a SIPP may not be for you.

SIPP INVESTMENT OPTIONS

Through a SIPP you can invest in a wide range of assets and funds, including:

Pensions Paid Free of Tax
Bonds
A bond is a type of loan made to a company (aka a “company bond”) or government (aka “a gilt”) which is then repaid in full at a later date, with additional income provided at a specific rate.

Cash
Much like a savings account, you can simply hold cash in your SIPP however this is less desirable for many as the interest rates available will often be less than those available in standard savings accounts. However, saving cash provides a minimum risk for investment.

Exchange Traded Funds (ETF)
Exchange Traded Funds are investment funds which are traded on the LSE and other European markets. Unlike individual stocks and shares, ETFs track the index on various stock markets. Examples of ETFs could include gold, silver, crude oil or the FTSE 100.

International Equities
Stocks and shares essentially allow you to buy equity in a company. If the value of that company increases, so do the value of your shares.

Investment Trust
An investment trust is a collective investment which enables you to invest with a group of investors meaning that your investment risk can be spread.

Managed Funds
A managed fund is a collective investment which enables you to invest with other investors in multiple assets designed to spread risk and provide diversity


CURRENCY CHOICE

Currency Choice
Firstly, as SIPPs are held in the UK, the investments and payments have to be in GBP. This means that if you plan to draw an income from your SIPP while you live abroad you will be liable to currency fluctuations, so you should factor this into your retirement planning

It should also be noted that if you live abroad and wish to continue making contributions to your SIPP there could be cost implications if value of the pound falls.


TAXES

Pension Fund Inheritance on Death When drawing an income from your SIPP, you will be entitled to the UK personal allowance and a 25% tax-free pension commencement lump sum

However, you will still be subject to UK income tax when drawing funds from your pension.


LIFETIME ALLOWANCE

Investment Choice The Lifetime Allowance relates to the total of all the pensions you hold, including the value of pensions promised through any defined benefit schemes, but excludes the UK State Pension. The current Lifetime Allowance for savers is £1 Million.

If the Lifetime Allowance is exceeded savers will pay tax on any excess savings above the lifetime allowance limit. The rate of tax depends on how savers receive the excess. If it is in the form of a lump sum, the rate of tax is an eye-watering 55%. If it is in the form of regular pension income, the excess is taxed at 25%.


UK INHERITENCE TAX

UK Inheritance Tax SIPPs are held in trust outside your estate and are free of inheritance tax (IHT) in the UK since new legislation was introduced in 2014. There are no penalties and 100% of the residual pension value would be passed to your surviving partner or other beneficiaries.


MISCONCEPTIONS

Consolidation of Existing Pensions
SIPP Loans
SIPPs can make loans to unconnected third parties. Loans must not be made, either directly or indirectly, to scheme members or their relatives or other “connected parties".

All loans must be genuine investments and should be prudent, secure and commercial. There are substantial tax charges if the rules on loans are broken.



Residential Property A SIPP Can Own Direct Residential Property
A SIPP can only invest in residential property, either in the UK or overseas, provided it is via what is called a "genuinely diverse commercial vehicle".

Typically this would be a collective managed fund or a Real Estate Investment Trust (REIT).

This means that a SIPP cannot directly wholly own a residential property. It must be a part owner (not more than 10%) and there must be no right for any personal use.


If you intend to retire outside of the UK and would like to consider alternative pension arrangements, contact us by clicking here