The days are long gone when pensions ‘simplification' corresponded to any dictionary definition of the word. A laudable effort to make pensions easier to understand is bogged down in complexity that most people find utterly baffling.
Any hope that things may become simpler as the transition arrangements work their way out of the system looks increasingly forlorn as the government continues to tinker with the legislation.
An even greater problem than the complexity, though, is continuing uncertainty over parts of the new regime. The most serious example is the confusion over employer contributions, despite recently-published Revenue guidance.
As a reminder, contributions up to an ‘annual allowance’ (currently £215,000) can be paid into a pension for an individual in any ‘input period’ (which is normally 12 months, but may not be a tax year). Anything more results in a 40% tax charge on the individual.
Ignoring potential differences between input period and tax years, and the fact that the annual allowance doesn’t apply in the final year before retirement, it would be straightforward to assume that an employer can pay in the annual allowance minus any amount paid by the individual without tax complications. But that’s before the ‘wholly and exclusively’ rule.
An employer contribution only qualifies as a legitimate business expense that reduces taxable profits if paid “wholly and exclusively for the purposes of the trade”. That’s generally fine, because a company is unlikely to make a contribution unless there’s a business benefit - generally attracting, retaining or motivating staff. The difficulties arise for shareholding directors and their families and friends. For example, the spouse of a controlling director could do a small amount of work but receive an excessive amount in salary or pension contributions.
The basic rule is that total remuneration must be consistent with payments to an ordinary member of staff doing similar work. In theory, the split between salary, pension and other benefits shouldn’t matter, and the Revenue removed a statement in the draft guidance suggesting further investigation if the pension contribution was disproportionate to the salary.
But a niggling doubt remains. The main reason the employer contributes rather than the individual is that employer contributions aren’t liable to National Insurance, and the Revenue is suspicious of tax-saving schemes for directors. No-one is sure whether a pension contribution of, say, more than 100% of salary will be acceptable.
In principle, all cases which could fall foul of ‘wholly and exclusively’ should be referred by the local tax inspector to the Revenue’s pensions team in Nottingham. That may not always be happening, but in any case Nottingham’s attitude remains uncertain. Ask the question and you’re referred to the guidance, which doesn’t help much. It looks as though we won’t have real clarity until individual cases are decided by the courts.
It almost makes me hanker after the bad old days. Occupational pension maximum funding rules were a nightmare, but there was certainty once you’d done the number-crunching.
I now spend a disproportionate amount of time discussing with advisers how to cover their backs in case an employer contribution is rejected by the Revenue. They have my sympathy. The lack of clarity is irritating for me, but it’s a serious business risk for advisers, and I’m heartened that so many are taking it seriously.
Ian Naismith is pensions market director at Scottish Widows.
The views are those of the author and not those of the company he represents.IFAonline
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