If you were looking to raise external finance for your business where would you look?
This was one of many questions the British Business Bank (BBB) sought to explore when they surveyed UK small to medium-sized enterprises (SMEs) in 2016 .
Whilst many of the survey results were not surprising; not least that 80% of small businesses (-those with between 10 and 49 employees) used external finance in the last three years. Or that they cited “the main bank is still the most likely first port of call when a finance need is identified”.
But what was more interesting was that there was an increasing trend in using a loan from a family member or colleague as a form of finance. And it was also surprising, to me at least, that there was no mention whatsoever of using pension savings as an alternative means of finance.
Many SME business owners who have built up a pension pot are able to use this to purchase a commercial property using a SIPP or a SSAS, and possibly solve a business funding need in the process.
Although not a secret, as the BBB survey shows, there is more to be done to raise awareness of using pension savings for business funding purposes.
The question of suitably is crucial here though. And using pension savings in this way may not be appropriate for everyone. Needs, objectives and risk tolerance amongst other matters will determine the most suitable solution for an individual’s circumstances. As such, guidance from a financial adviser should be sought.
But herein perhaps lies part of the problem. The BBB survey found only 2% of respondents would first speak to their financial adviser when they realised they needed finance. Although over half (54%) of respondents would first speak to their main bank, this would not provide the depth afforded by independent financial advice – the former doesn’t require the recommendation of the most suitable financial product from the whole of the market.
But how can using pension savings and solving a business need be achieved from a practical perspective?
One popular solution for those owning their business premises (either personally or via their company) involves using a pension, like a SIPP, as an equity release vehicle. Here the business owner can use existing pension savings to purchase their commercial premises. However, pensions tax law dictates that this must be done on arm’s length bargain terms or, in other words, the market value of the premises set by a surveyor must be paid.
This enables the business owner (or their company) to release the ‘sale’ proceeds to invest as they see fit – whether it be funding working capital, being used to drive expansion or something in between.
Once ownership has passed to the pension fund, the business can still occupy the premises on proper commercial terms.
A wide variety of types of commercial property can be purchased by pension funds in such a way including office, industrial and retail units.
Additional benefits of such a transaction (other than just releasing capital) are that the commercial property is now sheltered in a tax-free environment, while for the business any rent paid is treated as a business expense which might lead to reducing its corporation tax bill.
The BBB survey also found that 55% of respondents believed it would be either “fairly” or “very” difficult to gain finance, so a time when SMEs are finding it difficult to get financing from the bank a pension-based solution has a powerful draw – you aren’t reliant on a third-party. Rather you are simply utilising your existing savings, albeit those saved via a pension.
Additionally, the absence of any third party means any financial benefits are retained for your ultimate benefit - for example, accumulating pension savings via the collection of rent.
So, next time you are discussing your business funding needs with your financial adviser, why not enquire “what about my pension?”.
Eddie McGuire is managing director of @sipp.
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