Commercial property held in a SIPP - what’s the problem?

Tax rule changes are about to affect anyone holding commercial property in a SIPP.

Investing in commercial property via a Self-Invested Personal Pension (SIPP) has been a popular tax efficient way to build a pension nest-egg. 

Key benefits include tax relief on contributions, tax-free rental income, and using your pension to buy business premises, but professional advice and the correct SIPP provider are essential. Get expert advice, and follow the strict regulations that apply to SIPPS and commercial property, especially regarding borrowing and VAT.

This article applies primarily to England & Wales and is not a full interpretation of the HMRC rules. Always seek professional advice before making or not making decisions. Use this guide as the starting point for your research, not an endpoint.

Investing in commercial property through a Self-Invested Personal Pension (SIPP) has been popular with business owners, landlords and individuals. As a tax efficient investment strategy, it allows ownership of assets like offices, shops, or warehouses, to let out and potentially for your own business, with rental income flowing straight back into your pension pot.

It offers income, capital growth and tax advantages, though it involves some complicated rules, significant costs, and risks, like property market fluctuations and tenant vacancies when the property is rented out. 

The perfect solution

For years this vehicle has ticked a lot of the boxes as a tax-sheltered rental income and capital growth model avoiding capital gains tax inside your pension wrapper, and (crucially) no inheritance tax to pay if the pension was left untouched at death. 

However, Rachel Reeves’ Autumn 2024 Budget dramatically changed the SIPP landscape. The HMRC rule changes she wrought are due to hit SIPPS in April 2027. These rule changes will fundamentally change the SIPP tax rule calculus. 

The FT Adviser has recently warned that the reforms will “fundamentally change the risk profile of commercial property inside SIPPs”, pointing to a looming “liquidity crisis” for some schemes forced to settle inheritance tax (IHT) on illiquid property assets at fairly short notice. 

This article breaks down how SIPPs work for commercial property, the true pros and cons under the old and the new regime, and what investors must be thinking about now.

The SIPP and commercial property, as it is now

A SIPP is just what it says: a Self-Invested Personal Pension where you choose the investments, be these property, stocks and shares or cash These pensions, unlike standard workplace pensions, allow freedom to choose investments yourself around a much wider range of assets and this includes commercial property but not residential property. 

A SIPP can buy commercial property such as offices, warehouses, shops, or industrial units and all the retail income flows back into the SIPP tax-free, including when your own business occupies the property.

Your business, when you occupy, or any tenant, must pay a full market rent on an arm’s-length* basis to avoid penalties.  

The SIPP pension can borrow money against its assets (commonly up to 50 per cent of the SIPP’s net value) to help fund another purchase. If the SIPP should sell the property, there is no capital gains tax to pay. 

An attractive proposition

For business owners and partners of professional firms, especially those occupying their own premises, this arrangement could convert what would otherwise be rent costs into pension value and act as a neat corporate tax and personal planning benefit.

Transferring a commercial property into a SIPP means that business owners can have their company or firm rent the premises. Thereby they turn what was previously a cost into pension contributions, and do this perfectly legally, providing the rental deal is strictly arm’s-length* and is compliant with the SIPP pension rules.

*A strictly arm's-length rental deal would be a normal commercial transaction between two or more parties who are unrelated acting independently, and each pursuing their own self-interest. A key consideration is that the terms and conditions, especially the rent, reflect the true fair market value, free from any personal influence or other special considerations.

Business owners get the benefits of the increased returns from property (capital growth) with income flowing directly inside the pension. There’s no income tax or corporation tax on rental profits and no capital gains tax (CGT) on disposal and most critically, unused pension funds passed outside the deceased’s estate are completely free of inheritance tax (IHT), unlike personally held property or other assets.

Compared to investing in the stock market, funds or real estate investment trusts (REITs), a SIPP gives owners direct control over their pension property asset: the valuations, the lease terms, tenant selection, and when to sell.

Also, for those with asset investments heavily concentrated in equities or fixed income bonds, property inside a SIPP offers asset diversification that’s not correlated with the financial markets. 

Much of these benefits changed in October 2024, though the new rules won’t apply until April 2027 – see below.

There are some negatives with commercial property in a SIPP

Commercial property is an illiquid asset, it can sometimes be difficult to sell or let, and it becomes a liability when vacant. A SIPP holding a single commercial asset is not diversified and can be trapped if the market goes down or buyers are scarce. 

Managing commercial property involves letting, maintaining, ensuring compliance, handling vacancies and acting on lease issues — it’s not a passive investment so carries administrative, legal and valuation costs that other assets won’t. 

These negatives don’t apply of course if the business owners occupy the property themselves.

The April 2027 tax shock – it changes everything

This is where the story changes dramatically. Until April 2027 unused pension funds which include SIPPs can be passed on to relatives IHT free, allowing significant savings of value to pass to beneficiaries – totally free of death duties. How lucky you are!

However, from 6 April 2027, the UK government will bring most unused defined contribution pensions, including SIPPs, into peoples' estates for inheritance tax purposes. It means their value counts toward the IHT calculation, and if the total exceeds the nil-rate band (currently £325,000 - an allowance unchanged since 2009-2010). Therefore a 40 per cent tax will be applied to the excess above the nil-rate band. 

Rule changes now confirmed

This change has been confirmed in draft legislation and government responses to consultations, and advisers across the pensions industry are now preparing for the new rules coming in.

They are also arguing that this reform will create significant practical and liquidity issues. 

The FT Adviser recently highlighted the scale of the problem, as according to its research; there are 54,387 self-invested personal pension plans currently holding commercial property.

These situations have the potential to face a “liquidity crisis” when the pension trustees may be forced to sell illiquid property assets on tight timeframes to settle inheritance tax liabilities. 

Potentially, properties would have to be sold at fire-sale prices, unfavourable prices in the wrong market moment. The reality is, a pension wrapped around hard-to-sell bricks and mortar isn’t easy to turn into cash on demand — and yet under the new rules, the estate or trustees might need to do just that to pay off the tax liabilities.

Commercial property can take months if not years to dispose of in the market. This has not been a problem up till now, but if there’s an IHT bill to pay, it could be a major one.

According to Mark Incledon of Bowmore Financial Planning, as quoted: 

“Introducing IHT on pensions fundamentally changes the risk profile of holding commercial property inside a Sipp.

“These assets were never designed to be accessed quickly, and with the changes to IHT rules families could suddenly find themselves trying to raise a six-figure tax bill without the liquidity to do so.

“The combination of Sipp ownership structures, slow-moving commercial property markets and the new inheritance tax rules has the potential to create a perfect storm.”

What remains for the SIPP with commercial property?

Tax-free rental income and tax-sheltered gains inside the pension will still apply after April 2027. Commercial property can still serve legitimate diversification and business strategy purposes inside SIPPs.

What changes is the IHT Exposure. The commercial property’s value now feeds into the owner’s estate and likely attracts 40 per cent tax. The liquidity problem therefore applies. 

There is also the danger of double taxation. As will all SIPPs after April 2027, beneficiaries may face IHT on the pension value as well as paying personal income tax on the money they inherit if the pension holder passes the age of 75 before death. The total tax rate for high and higher rates taxpayers therefore could be excruciatingly high: potentially, 40 per cent + 45 per cent or 85 per cent of the inheritance.

Owners and beneficiaries in this position, with properties within a SIPP, should seek professional advice without delay. They should review their property holdings now and think about selling property investments before a death occurs or selling them when market conditions are favourable. 

Building liquidity inside a SIPP holding commercial property is well worth considering where the pension fund also holds other more liquid assets such as gilts and listed investments etc. There are also life assurance and other or trust solutions that can be tailored to cover potential tax bills.

If you are affected, seek professional advice from a good pensions, tax, and estate specialist professional.

[Main image credit: Cottonbro Studio]