HM Revenue and Customs has resurrected an annuity rule it axed in 2006, following pension simplification, in a bid to close an annuity tax loophole that partnerships use.
In a policy paper, HMRC said it is bringing back the ‘1/60th of salary’ rule in a bid to stop partnership bosses abusing tax loophole.
Up until pension simplification in 2006 the one sixtieth rule was used by HMRC to calculate tax for members who joined schemes before March 1987.
Andrew Tully, pensions technical director of MGM Advantage, told FTAdviser that HMRC has brought back the rule in a bid to ensure partnership bosses exiting a business do not abuse annuity rules to pay less tax than they should do.
Prior to this rule change, exiting partnership bosses wishing to avoid the tax bill created by taking shares out of the business they are leaving had instead been asking to receive their stake in the business paid as an annuity instead.
In a bid to crackdown on this activity, HMRC has now stated partners leaving a partnership that buys a purchased life annuity for the exiting individual will be hit with the same tax treatment as those who receive a lump sum on the reduction of their share in the business.
David Trenner, technical director of Glasgow-based IFA Intelligent Pensions, said: “The legislation seeks to differentiate between a retirement income for a former partner, which must be within the old two thirds of salary limit (less for service below 10 years), and payment of partnership profits or capital gains.”
According to HMRC, the measure of the tax consideration will be “the actual costs of the annuity” and this is where the tax office has brought back their 1/60th a year of your salary limit for the size of a pension pot.
HMRC stated: “Provided that the former partner had been in the partnership for at least 10 years, an annuity will be regarded as reasonable for this purpose if it is no more than two-thirds of his average share of the profits in the best three of the last seven years in which he was required to devote substantially the whole of this time to acting as a partner.
“In arriving at a partner’s share of the profits the partnership profits assessed before deduction of any capital allowances or charges will be taken into account.
“The 10-year period will include any period during which the partner was a member of another firm whose business has been merged with that of the present.”
The return of the rule comes after the Conservative government announced in the summer Budget that serial tax avoiders will be targeted.
Chancellor George Osborne announced a special reporting requirement and a surcharge on those whose latest tax return is inaccurate as a result of a further defeated avoidance scheme plus restricted access to reliefs for the minority who have a record of trying to abuse them.