First, let’s start with some basics. The vast majority of contributions paid into a small self-administered pension scheme (SSAS) are paid by an employer. This can either be the sponsoring employer of the SSAS, or a participating employer, which often occurs where there are a number of separate organisations associated via a holding company.
Although employee contributions are usually allowable under the SSAS trust deed and rules, they are only eligible for immediate tax relief where the SSAS is operated on a relief-at-source basis as self-invested personal pensions (Sipps) are.
However, SSASs tend not to be set up on a relief-at-source basis, which means any member making a personal contribution into a SSAS would have to apply for tax relief via self-assessment rather than it being claimed from HM Revenue & Customs by the scheme administrator and then credited to the SSAS.
For this reason, SSAS contributions are typically paid by the employer on behalf of the employee/member as part of the employee’s remuneration package.
Employer contributions are always paid gross, and the employer can treat the contribution as a deductible business expense against their corporation tax bill for a trading year, provided that the contribution is demonstrably in the SSAS bank account before the company year-end.
A SSAS is therefore often a favoured registered pension scheme for a limited company, where most, if not all, of the employees are also directors of the company. Not only are the contributions helping to build up a fund for each member’s eventual retirement, but they also offer an excellent way of helping to reduce the company’s corporation tax bill.
As many limited companies’ trading year ends on 31 March, now is the time of year when employers are deciding how much they can contribute to their SSAS from their trading year profits.
However, there are three aspects that can serve to spoil the party: the ‘wholly and exclusively’ rule, the tapering of the annual allowance and the recent crackdown by HMRC on contributions paid in specie. With care, these potential pitfalls, which could result in unwanted tax consequences for the employer or the employee, can be avoided.
‘Wholly and exclusively’
Page 46035 of HMRC’s business income manual states that a “…pension contribution by an employer to a registered pension scheme in respect of any director or employee will be an allowable expense unless there is a non-trade purpose for the payment. In cases where the contribution is part of a remuneration package, paid wholly and exclusively for the purposes of the trade, the contribution is an allowable expense [for corporation tax purposes].”
HMRC’s original guidance took effect from A-Day (6 April 2006), but in comparison to the prescriptive rules surrounding maximum employer contributions that existed before A-Day, the new rules were described as vague and confusing for employers, advisers, providers and even local inspectors of taxes, who are responsible for making the final decision on whether the contributions represent an eligible business deduction.
Examples of some of the more confusing parts of the original guidance include the need to know what “the taxpayer’s subjective intentions at the time of payment” were, and whether a benefit arising from a contribution is planned or merely a “consequential and incidental effect of the payment”.
Rumours even circulated of local inspectors reverting back to the pre A-Day maximum funding rules, which led HMRC to state in September 2014 that it would publish updated guidance.
In the updated guidance, HMRC confirms that the payment of a pension contribution is part of the normal costs of employing staff and, as a result, the ‘wholly and exclusively’ rules will generally only be considered in limited circumstances: “[The contribution] will only be disallowable where there is an identifiable non-business purpose for the employer’s decision to make the contribution to a registered scheme or for the size of the contribution.”
Consequently, the new guidance, which is effective for all accounting periods ending on or after A-Day, will particularly affect owners and directors of companies and any connected employees such as a spouse or child who may work for them. And this is particularly pertinent for employer contributions to a SSAS, which are often utilised by family run businesses.
The revised guidance does allow employers and their advisers to plan pension contributions with more confidence, as it is clearer that the vast majority of employer contributions will receive full tax relief.
Owners of companies will have more confidence in taking a remuneration package (including pension contributions) up to the level of profits made by the company, as the profit usually reflects the value added by that individual.
However, there is now an increased focus by HMRC’s local tax inspectors to consider whether – particularly in relation to connected spouse and child employees – their salaries and pension contributions, made on their behalf by the employer, are an accurate reflection of their personal contribution to the overall profits of the company.
Any evidence of abuse in this area could lead to the inspector to conclude that “there is a non-trade purpose for the size of the contribution paid”, which could result in the employer not being allowed to treat some or all of the contribution as a deductible business expense against their corporation tax bill.
Annual allowance tapering
Arguably the most unloved of the recent changes to pensions legislation, a tapering of an individual’s annual allowance will occur if they have an ‘adjusted income’ of more than £150,000 and a ‘threshold income’ in excess of £110,000 during a particular tax year.
Their annual allowance is reduced by £1 for every £2 of adjusted income that an individual has of more than £150,000, subject to a maximum reduction of £30,000. The value of pension contributions is taken into account when assessing whether an individual’s adjusted income exceeds £150,000, which means an individual with threshold income of less than £150,000 (but subject to a minimum of £110,001) could also be caught.
This short explanation serves to demonstrate how complicated the tapering rules are, and that those individuals who are most likely to be affected are controlling directors and key employees of an organisation who could also be members of a SSAS.
Employers will need to ascertain if any of their employees are likely to be effected by the tapering – which is often easier said than done – before they make a contribution into a pension scheme on their behalf, particularly one that is at, or near to, the prevailing gross maximum of £40,000.
The unintended consequence of not doing this is that the employee could end up receiving a personal income tax demand from HMRC, where pension contributions made by them, and/or on their behalf, exceed their tapered annual allowance.
In specie pension contributions
The third pitfall to be aware of arises from a recent move by HMRC to not pay tax relief on contributions to a pension scheme that are made in specie; that is, where the contribution amount is not paid in cash, but with an asset of comparable value instead. Examples of such assets include shares and commercial property.
The reason(s) why HMRC is adopting this stance have not been voiced publicly, but there is speculation that it could relate to the valuation of intangible assets such as intellectual property.
To date, the focus of its tax relief clampdown has been on net – and therefore personal – pension contributions, with the added possibility of retrospective action dating back to 2009.
However, rumours are now circulating of corporation tax being challenged on an employer in specie contribution. If this is true, it would suggest that HMRC has begun widening its in specie contribution review to include gross contributions. In response to this, many SSAS providers are not allowing net or gross in specie contributions to be paid until further clarity is received from HMRC on the matter.
Employers who are considering making an in specie pension contribution (and can find a provider who is willing to facilitate this) should therefore consider selling the asset in question instead, so the contribution can be paid in cash to minimise the possibility that corporation tax relief is not allowed on the contribution by their local inspector of taxes.
James Jones-Tinsley is a self-invested technical specialist at Barnett Waddingham
