Are SIPPs the way to take control of your pension?
2009 may have been a rollercoaster one for the equity markets, but that has not stemmed the swelling tide of investors opening new self-invested personal pension (SIPP) accounts.
AJ Bell, one of the biggest providers in this market, saw a 24% rise in the number of SIPP accounts administered last year, while the value of SIPP assets on its books grew 40%, helped by the market recovery over the past 12 months.
It's not hard to see the attraction: SIPPs offer control, flexibility and investment freedom to anyone prepared to do the basic legwork involved.
What are SIPPS?
You (or your financial adviser) are in the driving seat, choosing from a wide choice of funds and other assets, monitoring their progress and switching between investments as you see fit.
SIPPs were introduced more than 20 years ago, but for many years only wealthy, sophisticated investors could afford to use them because of their high minimum entry levels and steep charges.
But the rise of online investment sites and online fund supermarkets has transformed the SIPP market. A new generation of simple, low-cost online products has made SIPPs more accessible.
Broker Hargreaves Lansdown has seen its SIPP business explode from just £100 million to almost £3 billion in the five years to June 2009.
"The SIPP market has changed markedly over the last three or four years, and the bulk of marketing and advertising has been focused on developing SIPP business at the expense of other types of pensions," says Tom McPhail, head of pensions research at Hargreaves Lansdown.
What are the rules on SIPP investment?
SIPPs are governed by the same tax and contribution rules as other pensions – for any contributions you make to your pension fund (even if you're not a taxpayer), the government automatically adds a further 20%, equivalent to basic-rate tax, while higher-rate taxpayers can reclaim another 20% through their self-assessment forms.
Since April 2006, pension investors are allowed to pay up to 100% of the value of their gross earnings into their pension plans (including SIPPs) each year, up to a maximum of £245,000 for the 2009/10 tax year.
But high earners should watch out: changes outlined in the last budget and November's pre-Budget report mean people with an income of more than £130,000 this tax year may lose higher-rate tax relief on contributions if they pay in more than £20,000 a year.
Although SIPPs get the same tax treatment as any other kind of pension, they provide much greater choice in the way you eventually take your retirement income.
In particular, a SIPP makes it easy to defer buying an annuity (until as late as 75), as you can leave your pension invested and simply draw down an income from it.
What are my options?
However, not all SIPPs are the same; there can be quite major differences in the range of asset types available.
The new breed of cheap and simple online/phone-based SIPPs are geared towards mainstream investors prepared to make their own decisions.
The simplest, such as those from IFA Bestinvest or Fidelity, focus on a broad range of funds through a fund supermarket, with cash as a temporary alternative, while SIPP provider James Hay allows both funds and shares in its SIPP.
However, some products provide a considerably wider choice. For example, Selftrade's SIPP allows UK and international shares, gilts (government bonds), corporate bonds and exchange-traded funds, as well as a range of investment funds.
At the other end of the spectrum are the old-fashioned, full-service SIPPs, though as McPhail observes, "only a tiny percentage of the population would want or need one of these".
They may also allow more offbeat permissible assets, such as traded endowments, gold bullion and commercial property, or even – in one or two cases – unlisted private equity.
Different investment managers may be brought in to manage different portfolios within the single pension pot. But few providers accept the full range of permitted investments, so it's important to check if you want to hold more unusual assets.
How much will it cost?
Many online SIPPs are now very cheap. Several, including those from Hargreaves Lansdown, James Hay and AJ Bell, have no set-up fees or annual administration charges; all you're likely to pay are the costs for online sharedealing or discounted funds.
By contrast, comprehensive SIPPs come at a hefty premium - expect a set-up fee of around £300 to £400 and annual charges of up to £800, plus substantial extra costs for specialist investments such as commercial property.
Moneywise Pension Award comprehensive SIPP winner, Hornbuckle Mitchell, for example, offers a wide range of investment options, including commercial property, but charges set-up fees of up to £345 and administration fees of up to £490 a year, and a property purchase for your SIPP will cost £600 to set up.
Are they for me?
The fact that there's now a good choice of low-cost SIPPs online means they are available to most people. "Even with just £100 a month or so you can set up a SIPP account, choose a couple of funds and manage the whole thing online very easily," says McPhail.
Billy Mackay, marketing director for AJ Bell, agrees: "It's simply not the case any more that SIPPs are the more expensive choice."
Nonetheless, if funds are all you want, you may be better off with a personal pension or even a stakeholder (where the choice is more limited and the fee is capped).
Daniel Clayden, director of IFA Clayden Associates, points out that many providers have turned their personal pension products into 'hybrid SIPPs' – adding investment choice and flexibility by offering a wide range of external as well as internal funds.
"The norm now is to have a single pension provider, but not to put all your money into its in-house funds," he says.
If you have a personal pension, unlike a SIPP, you generally only pay a single-plan charge rather than paying for the purchase of each individual holding.
While this might make it difficult to know exactly what you're paying for, they could be the preferred option if you're not interested in holding direct equities or other more unusual investments.
McPhail believes that the choice of whether or not to choose a SIPP is not really about cost or how much money you have to invest, but more about 'financial engagement' – how interested you are in your investments.
"If you don't want to think about where your money is going, you're probably better off choosing a simple stakeholder pension, which will give you a limited choice of funds to choose from and charge a regular fee," he adds.
Questions to ask you
- Do you prefer the idea of a core 'plain vanilla' pension fund to hold for the long term and feel reluctant to mess around with more high-risk or unusual funds? If so, a stakeholder product is likely to suit you better.
- How do you feel about selecting your own SIPP funds? If you don't like that idea, consider either using a financial adviser or sticking with the more limited investment choice of a stakeholder.
- Are you likely to check up on your portfolio performance regularly? If not, the SIPP route is probably not for you.
- How many existing pensions do you have? If you own several policies it may well make sense to pull them together within a single SIPP wrapper.
What steps do I need to take?
If you're happy to run your own SIPP, it's pretty simple to start off. First, decide what kind of investments you'll want to hold in your pension.
Try and think ahead – even if you only feel comfortable with investment funds at present, there may come a day when you have more time to build a portfolio of individual shares or want to branch out into investment trusts. Also look at the charges on the SIPP you're considering.
Once you've filled in the online forms and set up your account, it's not difficult to source a steady email flow of up-to-date investment ideas and information from firms such as Dennehy Weller or Whitechurch Securities.
Another possibility is to pay a one-off fee to a fee-based independent adviser for some fund or other investment recommendations to start you off.
Alternatively, if you like the range of investments available through low-cost SIPPs but don't have the time, interest or confidence to make your own investment decisions or monitor your portfolio, you could contact a specialist financial adviser.
AJ Bell's SIPPCentre for IFAs, which has won the Moneywise Pension Awards low-cost SIPP gong for the past five years, is a good example.
It includes a broad range of investments (including commercial property) and the option of a discretionary fund manager for the fund portfolio. The set-up fee is £120, with a quarterly administration fee of up to £45 plus VAT.
How can I build a portfolio?
If you're looking for ideas to shape your portfolio, bear in mind how long you have to invest: basically, the younger you are, the more risk you can afford to take.
Adrian Lowcock, senior investment adviser for IFA firm Bestinvest, suggests a moderate-risk portfolio will suit many people in their 30s and 40s. This will include commodities, emerging markets and Asia Pacific funds, alongside commercial property and a strategic bond fund.
As you move through your 50s and into your 60s, he recommends increasing exposure to more cautiously managed bond funds and to commercial property and absolute return funds.
"As you approach retirement, risk should be taken off the table as it's now harder to replace what we lose," Lowcock adds.
Can I transfer my pension into a SIPP?
There are good reasons to consolidate other bits and pieces of pensions within a single SIPP wrapper. It's cheaper and easier to manage – and most importantly, you can see at a glance how your whole pension portfolio is performing.
It's very difficult to manage your investments efficiently when they're scattered among several different providers, each with its own menu of funds. However, Tom McPhail, head of pension research at Hargreaves Lansdown, offers two words of warning:
- Don't give up an existing pension if it will mean losing contributions from your employer.
- Think carefully before transferring if you will be hit by hefty penalties for closing your existing pensions.
Otherwise, it's sensible and straightforward to bring your whole pension pot together under one roof. Simply contact your SIPP provider – you will need to do this in writing – and instruct it to arrange the transfer into your SIPP account.
The provider will need the name and address of each existing pension provider, plus your contract reference number in each case. It will then contact the existing providers on your behalf and request the transfer. The whole process should take a few weeks, but no longer.
Like a self-select ISA but for pensions, self-invested personal pension is a registered pension plan that gives you a flexible and tax-efficient method of preparing for your retirement. It gives you all sorts of options on how you put money in, how you invest it and how it’s paid out and offers a greater number of investment opportunities than if the fund was managed by a pension company. SIPPs are very flexible and allow investments such as quoted and unquoted shares, investment funds, cash deposits, commercial property and intangible property (i.e. copyrights, royalties, patents or carbon offsets). Not permitted are loans to members or people or companies connected to the SIPP holder, tangible moveable property (with the exception of tradable gold) and residential property.
A financial adviser who is not tied to any financial services company (such as a bank or insurance company) and is authorised by the Financial Services Authority (FSA). They can advise on financial products to suit your circumstances. All IFAs have to give consumers the choice of paying by fees or commission and have to explain which would best suit the customer in that particular instance. Also, if commission is paid either by the client or the financial service provider recommended by the IFA, the IFA must disclose what that commission is.
A form of money purchase defined contribution pension launched by the then Labour government in April 2001 with low charges and no-frills minimum standards. Designed to appeal to people on low and middle incomes who wanted to save for retirement but for whom existing pension arrangements were either too expensive or unsuitable, the stakeholder didn’t really take off and looks to be superceded by the National Employee Savings Trust (NEST).
Structured products offer returns based on the performance of underlying investments. Many products are linked to a stockmarket index such as the FTSE 100 or a “basket” of shares. There are generally two types of product, one offers income, the other growth and investors have to commit their capital for the prescribed term, usually three or five years. The investment is not guaranteed and if the index or basket of shares does not perform as expected over the term the investor might not get back all their capital.
Invented by a Frenchman in 1954 and ironically introduced in the UK on 1 April 1973, VAT is an indirect tax levied on the value added in the production of goods and services, from primary production to final consumption and is paid by the buyer. Its levying is complex, with a number of exemptions and exclusions. For example, in the UK, VAT is payable on chocolate-covered biscuits, but not on chocolate-covered cakes and the non-VAT status of McVitie’s Jaffa Cakes was challenged in a UK court case to determine whether Jaffa Cake was a cake or a biscuit. The judge ruled that the Jaffa Cake is a cake, McVitie’s won the case and VAT is not paid on Jaffa Cakes in the UK.
A sophisticated absolute return fund that seeks to make money for its investors regardless of how global markets are performing. To that end, they invest in shares, bonds, currencies and commodities using a raft of investment techniques such as gearing, short selling, derivatives, futures, options and interest rate swaps. Most are based “offshore” and are not regulated by the financial authorities. Although ordinary investors can gain exposure to hedge funds through certain types of investment funds, direct investment is for the wealthy as most funds require potential investors to have liquid assets greater than £150,000m.
An individual employed by an institution to manage an investment fund (unit trust, investment trust, pension fund or hedge fund) to meet pre-determined objectives (usually to generate capital growth or maximise income) in prescribed geographic areas or investment sectors (such as UK smaller companies, technology or commodities). The manager also carries the responsibility for general fund supervision, as well as monitoring the daily trading activity and also developing investment strategies to manage the risk profile of the fund.
A term applied to raw materials (gold, oil) and foodstuffs (wheat, pork bellies) traded on exchanges throughout the world. Since no one really wants to transport all those heavy materials, what is actually traded are commodities futures contracts or options. These are agreements to buy or sell at an agreed price on a specific date. Because commodity prices are volatile, investing in futures is certainly not for the casual investor.
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.
Generic, loosely-defined term for markets in a newly industrialised or Third World country that is in the process of moving from a closed economy to an open market economy while building accountability within the system. The World Bank recognises 28 countries as emerging markets, including Argentina, Brazil, China, Czech Republic, Egypt, India, Israel, Morocco, Russia and Venezuela. Because these countries carry additional political, economic and currency risks, investors in emerging markets should accept volatile returns. There is potential to make large profit at the risk of large losses.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
Absolute return funds
Absolute return funds aim to deliver a positive (or ‘absolute’) return every year regardless of what happens in the stockmarket. Unlike traditional funds, they can take bets on shares falling, as well as rising. This is not to say they can’t fall in value; they do. However, over the years, they should have less volatile performance than traditional funds.
The familiar name given to securities issued by the British government and issued to raise money to bridge the gap between what the government spends and what it earns in tax revenue. Back in 1997, the entire stock of outstanding gilts was £275bn; by October 2010 it had surpassed £1,000bn. Gilts are issued throughout the year by the Debt Management Office and are essentially investment bonds backed by HM Treasury & Customs and considered a very safe investment because the British government has never defaulted on its debts and this security is reflected in the UK’s AAA-rating for its debt. Gilts work in a similar way to bonds and are another variant on fixed-income securities.