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Proposed changes to Britain’s property leasehold system could hit the country’s pension system, with some estimates suggesting this could come to the tune of £30bn.
Levelling Up and Housing Secretary Michael Gove has been committed to overhauling what has been described as a “feudal” leasehold system, which sees homeowners having to pay rent to a freeholder after purchasing their property.
But doing so could affect people’s pensions, according to City investors and the pension industry, as many are invested in ground rent portfolios.
Although it’s not clear exactly what changes will take place, below we run through how they could affect the industry – and how this in turn could affect your pension.
What are the leasehold reforms?
Leaseholders do not technically own the land on which their home stands and often must pay rent to a freeholder, who owns a property outright, including the land it’s built on.
They say they face costs that are either doubling or increasing in line with inflation, costing them thousands of pounds each year.
Mr Gove previously said he wants to reduce all ground rents to a zero (“peppercorn”) rate, which would also give landlords an incentive to sell the freehold to leaseholders.
However, there has been some backlash on this from freeholders. Sky News has reported that Mr Gove’s now-favoured option is imposing a £250 cap on ground rent and transitioning to peppercorn levels over a 20-year period.
Why do the reforms have an impact on pensions?
Some pension funds have financial investment in the ground rent market.
In a letter to a parliamentary committee earlier this year, the Pensions and Lifetime Savings Association said: “In recent decades, pension funds have participated in the residential ground rent market as institutional investors to help meet their financial obligations.
“A policy change that would cap ground rents would directly affect pension funds and could negatively impact their ability to secure investment returns meant for the savers they represent.”
Simon Daniel, chair of the Society of Pension Professionals Investment Committee, told i that certain pension funds may also be affected where they own freehold titles directly, although he added that this would be less common.
A Government impact assessment estimates that in the case of ground rents being reduced to the peppercorn level, it would have an estimated impact of £27.3bn in current value.
What does this mean for your pension?
Pension experts have been quick to point out that although a figure of just under £30bn sounds like a large hit to the pensions industry, it needs to be put in context of the industry as a whole.
“We need to remember just how vast the pensions investment universe is – we’re talking trillions of pounds. So a £30bn hit across all pension funds, while sounding big, is actually fairly small in that context,” explains Tom Selby, director of public policy at AJ Bell.
“The scale relative to total assets is probably not that significant for most in the long-run,” adds Mr Daniel.
Exactly how your personal pension is affected depends on the type of pension you have.
There are two main types. These are defined benefit (DB) pensions – which offer a guaranteed income for life accumulated based on your salary while working and the amount of time you work for – and defined contribution (DC) pensions, which are essentially a savings pot that is invested, which you draw money out of in retirement.
“From a DB perspective, the impact would be a worsening of the scheme’s funding position. That won’t impact on how much pension members get unless the sponsoring employer goes bust, in which case it might do,” explains Mr Selby.
With regards to DC schemes, Mr Selby says: “If someone has some exposure to a property fund likely to be negatively impacted by the leasehold rules, then there is a risk that fund – and therefore their pension if that’s the vehicle they have used – will fall in value.”
But he also plays down the extent of the problem this will cause.
“Provided your pension is well diversified, this should represent a minor knock rather than an existential threat to your retirement plans,” he says.
Experts i has spoken to have broadly said they suspect that DB schemes are likely to have larger investments in the sort of assets affected by the change to policy, because they tend to provide a guaranteed index-linked income.
