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Too good to be true

The English language is full of wonderful sayings such as never look a gift horse in the mouth. A free gift from the Revenue that we should quietly accept was exactly what the pension industry appeared to get in the shape of scheme pensions.

This worked by paying a scheme pension directly from SSAS assets rather than applying the assets to buy an annuity (although other types of scheme such as Sipps could probably do the same thing). On death, if there was any residue left over from the fund allocated to support the scheme pension payments, this could be reallocated to other members of the SSAS, who just happened to be members of your close family.

Even better, the amount reallocated was not caught by the new IHT rules that applied to alternatively secured pension residues.

Rather than accept such a rare gift without complaint, my initial reaction was to look into this particular horse’s mouth. For example, assume that the SSAS paid a scheme pension in line with an open market annuity (1). Assume also that the pension continues on a path of normal life expectancy for annuitants – in the case of a 60-year-old man to age 84(2). Finally, assume that the fund supporting the scheme pension enjoys modest growth of 5 per cent a year. How much would be left at death out of a 1m scheme pension support fund?

The answer is over 600,000, meaning that IHT of nearly 250,000 can be dodged with a SSAS scheme pension compared with passing on death benefits via Asp. Should we quietly market this gift or would it have a sting in its tail and come back to bite us at some point in the future?

My view is that the best policy is one of openness. Better to operate in full view of the authorities and have comfort that what you are doing now has their implicit (if not their explicit) blessing rather than have to clear up a mess in years to come.

Passing on such big amounts (which were left over even on the “reasonable” basis of a scheme pension paid at the level of an open market annuity) looked like the Revenue was being excessively generous.

It turns out that we were right to question the authenticity of this gift. The Revenue has said to me that it will exert its full power against artificial schemes which aim to avoid taxes in this way, including the one I highlight here. It has even hinted at the action it might take.

In the example above, it says it could retrospectively deem the 600,000 surplus to be uncrystallised. This has two serious implications. First, as only 400,000 is deemed to support the scheme pension, then the tax-free cash should not have exceeded 133,333. However, if the scheme had previously paid tax-free cash of 333,333, in line with the 1m scheme pension support fund, then tax-free cash has been overpaid by 200,000. This would be treated retrospectively as an unauthorised pay- ment and a 40 per cent tax charge applied.

The 600,000 reclassified as uncrystallised would be automatically deemed to be an Asp fund (as the member is over 75). No tax-free cash would be paid (member over age 75) and the fund could be reallocated to other scheme members but subject to IHT. But, overall, this is worse than having gone directly into ASP in the first place.

If anyone tells you that such “family SSASs”have the Revenue’s “approval”, then this should trigger serious doubts. The Revenue no longer “approves” pensions, Nor does it give, tacitly or otherwise, any endorsement as to the effectiveness of any tax planning scheme.

You may have already heard from providers which are promoting this “opportunity” and think that it is a great idea. You may also choose to doubt what I say. But before you make up your mind about whether to recommend this to your clients, my suggestion is this – consider the saying: If something looks too good to be true, then it probably is and trust the rest to your own judgement.

Sources: (1) FSA comparative tables, best rate available on August 1, 2006. Male 60, joint life 50 per cent spouse’s pension, level instalments.

(2) Continuous mortality investigation (Faculty and Institute of Actuaries).

John Lawson, Viewpoint.
John Lawson is head of pensions policy at Standard Life

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