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Is buy-to-let a good alternative to a pension?

Many people in the UK see buy-to-let property as a good alternative to a stock-market-based pension account, simply because they trust property more than they do stocks. I can understand the logic. Not only is property a tangible asset that you can see and touch, but it has delivered strong long-term returns with far less volatility than stocks.

Is investing in buy-to-let instead of a pension actually a sensible strategy though? Let’s take a look at some of the risks.

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All your eggs in one basket

One major problem with buy-to-let as a pension is that all your eggs are in one basket. This adds risk. If UK house prices were to tumble (which shouldn’t be ruled out as it’s happened before) or rents were to fall, your retirement plans could be jeopardised.

By contrast, with a pension, you can invest your money over many different companies across different sectors and countries. This lowers your overall investment risk substantially.

Lack of liquidity

Another major issue with buy-to-let is that it’s not liquid. If you need access to some money when you retire, you can’t just sell off a bedroom or a bathroom. And selling a property can take months or even years.

With stocks, however, you can literally sell a proportion of your portfolio within minutes and have the cash within days. This is a key advantage that stocks have over property.

Unfavourable tax setup

Next, consider tax on buy-to-let. It’s quite unfavorable. For starters, you’re looking at stamp duty surcharges when you buy a buy-a-let property. Then, you’re looking at tax on your rental income (20% for basic rate taxpayers, 40% for higher rate, and 45% for additional rate). 

Finally, if you sell your buy-to-let property for a profit, you could be looking at a substantial Capital Gains Tax bill. Currently, tax is payable on any capital gains over £12,000 (18% or 28% depending on your tax bracket).

By comparison, the tax setup for pensions is attractive. For starters, investments within pensions grow free of Capital Gains Tax and Income Tax. Secondly, you can take 25% of your pension tax-free when you turn 55.

Thirdly, when you put money into a pension, the government actually tops up your contributions. This is known as tax relief. Put £800 into a pension, and the government will top it up to £1,000 (higher rate taxpayers get an even better deal). Overall, from a tax perspective, pensions are superior to property, in my view.

It’s a hassle

Finally, don’t forget the hassle of buy-to-let. If you were to hold on to your buy-to-let property in retirement in an effort to generate an income, you could experience a number of challenges. Do you really want to be dealing with issues such as finding tenants (and dealing with bad ones) and taking care of repairs when you’re 80? It’s not ideal.

This is another area where pensions have a clear advantage. Build up a portfolio of dividend-paying companies within your pension, and you’ll get paid a regular income in retirement for doing absolutely nothing.

All things considered, investing in buy-to-let as an alternative to a pension appears quite risky, in my view. I think you’re better off sticking with a pension and investing in a diversified portfolio of stocks to grow your wealth.

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Views expressed in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.