Clients due FSCS compensation after investing in Keydata via their SIPP should beware unforeseen tax charges when they receive payment, providers warn.
Providers says FSCS payments made directly to the investor, such as via a cheque, may trigger punitive tax charges.
Currently, HMRC rules state investors can choose to receive a compensation payment individually or have it paid straight into their SIPP. Alternatively, money is paid into the SIPP without consultation.
The FSCS says payment methods depend on who the SIPP trustee is.
However, Gregory Kingston (pictured), head of marketing at Suffolk Life, says: "The FSCS is struggling with directing its payments, and seems to be inconsistent with its approach.
"Claims have been made to us, to the investor's SIPP, and also direct to the investor when we believed it should have been to their SIPP."
Providers fear investors may be hit with unauthorised payment charges, which stop investors withdrawing pension funds early or too quickly, if they receive the money directly.
However, an HMRC spokesperson says: "Compensation is not taxable as an unauthorised payment, but depending on the circumstances it may be subject to other tax charges."
The spokesperson could not confirm which tax charges may arise.
The classification of payments as either 'restitution for distress caused' or 'compensation for funds lost' is causing further confusion over where tax liabilities may spring up.
Neil MacGillivray, head of technical support at James Hay Partnership, says payments should be classed as restitution, but adds: "The FSA advised James Hay it should be treated as compensation. This does not follow logic."
If payments are intended as compensation, they must be treated as a pension contribution.
MacGillivray explains some SIPP investors have enhanced protection, which protects pre-A Day pensions from tax charges if they exceed the 2006 limits on contributions.
However, any further contributions could lead to the loss of that protection and subsequent 40% tax charges, he warns.
An FSCS spokesperson says: "We deal with claims on a case-by-case basis.
"Each claim is different. Whether or not there is a tax to pay arising from a payment is a matter for the claimant and HMRC."
See this week's Professional Adviser for more on how Keydata's collapse has hit SIPPs.
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