For several decades now, more and more of us have looked to property investment as an alternative way to save for retirement.
It’s an avenue with a good strong argument in its favour: ongoing rental income even before retirement, capital gains if you decide to sell a property, and the option of equity release if you need a lump sum during retirement.
But how does it stack up compared to saving into a pension fund with its own options of withdrawing a lump sum at retirement and/or taking a guaranteed annuity for life?
As the UK population lives for longer, average ages – not to mention retirement ages – are on the increase, so the choices you make in your youth and middle age could have a big impact on your quality of life in retirement.
The pros of property ownership
Most of us see property ownership as a fairly reliable investment. There are costs associated with maintaining a property, and house prices do sometimes fall, but generally speaking the housing market tracks upwards in value over the long term.
Especially in recent decades, capital gains on property have often significantly outpaced the rising cost of living, leading more people to invest in buy-to-let (BTL) properties or to remortgage or downsize and release some of the equity from their own home.
There are challenges to entry – you’ll need to save a deposit, which has been harder in the past decade due to the impact of the sub-prime mortgage lending crisis.
You may also face stricter rules if you want to buy a BTL property, as mortgage lenders are more reluctant to lend if you do not intend to live in the property yourself, and the interest rates charged can be higher as a result.
And of course it’s a literal postcode lottery, with some parts of the country much more affordable than others, and a mixed pattern of capital gains achieved nationwide too.
Can property be a pension?
As mentioned above, there are some ways in which property – particularly property you rent out, rather than just equity release from your own home – can act similarly to a pension.
Providing you have tenants, you can generate ongoing income from your rental yields, and these will usually more than cover the cost of the mortgage, meaning you don’t have to buy rental property outright in order to profit from it.
But investing in property for retirement is not without its problems. For instance, if your plan is to release equity from your own home by downsizing, you might find at 65 that you’re not as keen to move into a ‘granny flat’ as you expected.
Selling a house takes time, which could tempt you to accept an offer several thousands of pounds below your asking price, and there’s likely to be several more thousands of pounds of stamp duty, estate agent fees, solicitors fees and so on.
Equity release in the form of a lifetime mortgage means you can stay living in the property until your death, but you’ll typically get less value for your home and you won’t be able to leave it as an inheritance for your children.
In a sense, you are also gambling on dying ‘soon enough’ that the lump sum you release will not run out first – and either way that’s a slightly grim prospect.
What about a pension pot?
Saving into a pension fund is the obvious way to prepare for retirement, and again historically the gains that can be made in this way are tempting.
A pension pot locks away your investment on the understanding that you will not touch it until you retire – this allows gains to be compounded over many years, generating even more value, and is the reason why saving into a pension early in life is so important.
But with a traditional pension fund that you cannot withdraw from, it runs the risk of having a large investment portfolio but effectively zero liquidity until you reach retirement age.
In a sense, saving into a traditional pension fund means preparing for a specific rainy day in the distant future, while hoping it will stay sunny in the meantime.
This lack of access to their own deposits is one reason why saving into a traditional private pension has fallen out of favour with many investors in recent years, replaced by alternatives like property investment, or even just saving into an ISA or ordinary savings account.
Will my pension always grow?
Not necessarily. Like other funds, pension funds are usually exposed to the strength or weakness of the economy.
Growth rates can vary and there is no guarantee that your pension won’t lose value in an economic crash – a particular problem if it occurs immediately before you are due to retire and start living off the income generated by your pension pot.
It’s worth remembering that there are other perks to pension pots that can help to add more value, for example with an auto-enrolment workplace pension, the employer and government contributions can double the amount you pay in from your own wages.
You might not get this with a private pension, but you can have greater control over where your deposits go, and review the performance of your pension to make sure it’s generating as much interest as possible.
How to choose between pensions and property
Pensions and property are not mutually exclusive – you can have both. For example, you might want to stay in your workplace auto-enrolment pension scheme and make the typical amount of deposits each month, while also diverting some of your pay cheque into a savings account.
By doing this as soon as you get paid, it’s possible to ‘hide’ that money from your current account balance, reducing the temptation to spend it.
And as your savings build, you have the opportunity to invest that money wherever you wish – whether by clearing mortgage debt on your own property, or buying a new BTL property to generate rental income and capital gains.
Like a pension, it’s usually good to get into property investment earlier in life, as the gains made can be reinvested by buying more or bigger properties and growing your portfolio organically.
But even a single rental property can yield a good monthly income, especially if you are able to clear the BTL mortgage in full before you reach retirement.
Combined with your state pension, workplace pension and private pension annuities, that can give you an excellent quality of life in your later years, without having to spend your life savings to cover the basic cost of living.
Disclaimer: The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.