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The purpose of this Memorandum is to explain the workings of SSASs – Small Self Administered Schemes.
What is a SSAS?
A SSAS is a money purchase company pension scheme. The usual pension scheme benefits of a tax free lump sum (generally 25% of the fund), pensions and death benefits can be paid. The SSAS is established by a company for its employees or directors. It can have up to 12 members. Usually there will be 2, 3 or 4 members who are owner managers of a private company.
A SSAS is established as a trust and all members will be trustees. In addition, there will usually be a professional trustee.
Members can pay personal contributions but it is normal for SSASs to be funded by employer contributions, to reduce National Insurance liability. Transfers from other pension schemes can be accepted.
SSAS members have an interest in a common investment portfolio which is often a suitable approach for members of the same family. However, each member’s interest is identified based on the contributions, transfer payments and investment return for that member. Moving funds from one member to another would incur tax charges.
If a person wants their own investment portfolio then a SIPP will often be better. A person can be a member of both a SSAS and SIPP.
The Scheme Administrator, usually the professional trustee, will submit a return to HMRC after the end of each tax year. This will detail the changes that have taken place and the scheme investments.
The administration fees for a SSAS will usually be higher than for one SIPP but if there are several members the SSAS fees can be lower than several SIPPs.
Employer contributions and members’ personal contributions are usually eligible for tax relief. Tax may be charged if the total input exceeds an Annual Allowance of £50,000.
More details are provided in the separate Client Memorandum ‘Income Tax Relief on Pension Contributions’.
Generally, SSASs do not pay tax on income generated on investments (interest and dividends) and do not pay capital gains tax.
SSASs may invest in a wide range of investments which are chosen by the member trustees. All members have to agree to all investment decisions, unless delegated to a discretionary investment manager. SSAS investments include loans, commercial property, equities, gilts, managed funds, unit trusts, structured products and deposit accounts.
High tax rates apply to residential property which effectively preclude its inclusion (see below).
Loans up to 50% of the value of the SSAS can be made to the sponsoring employer (known as loanbacks) or other businesses or third parties. Loans cannot be made to members or anyone connected with them. HMRC have stated ‘All loans are only acceptable if they are genuine investments of pension schemes. They should be prudent, secure and on a commercial basis.’
Loanbacks have to be secured by a first charge over an asset (usually property). The asset needs to be valued to show it is worth more than the initial amount of the loan.
Capital and interest has to be paid at least yearly. Loans have to repaid by equal instalments over the term of the loan (like a repayment mortgage).
The loan must be operated commercially. If capital or interest payments are missed, heavy tax charges can be incurred.
The interest rate has to be at least 1% over base rate but could be higher. The rate can be fixed at that level for the whole of the term or it can float with changes in base rates.
SSASs can invest in shares directly, perhaps via a stockbroker’s execution only service or via a discretionary managed portfolio or via a unitised fund.
SSASs may invest in unquoted shares, and there is no restriction on the size and value of an unquoted shareholding held by a SSAS. However, it would be most advisable to obtain a clearance in advance from HMRC under the transactions in securities legislation, if a SSAS is acquiring more than a small minority holding.
If the member controls or is connected with the company then the rules relating to taxable property (see below) may effectively prevent the SSAS holding the shares.
SSASs may invest in commercial and industrial property whether situated in the UK or abroad. Commercial property of any kind can be a useful planning tool when leased to the family company.
The company obtains tax relief on the rent it pays and the rent received by the SSAS is tax free. Income tax will be suffered when a pension is drawn but the tax is deferred and could be at a lower overall rate. The purchase may be funded from new contributions, borrowings or transfers from other pension schemes. Because a SSAS is free of Income Tax on the rent it is more efficient when using a loan to purchase a property as the rental stream can be used directly to reduce a debt. An individual would have to pay Income Tax before reducing the debt.
The ownership of the property by the trustees protects it from any liquidator of the business. If commercial property is leased to a connected company, it must be on fully commercial terms, otherwise a tax charge will arise on the members on the value of the “benefit” so enjoyed.
The pensions legislation effectively prevents schemes from investing in residential property and ‘tangible moveable property’, by applying punitive tax rates. Tangible moveable property includes personal chattels, such as works of art, antiques, fine wines, jewellery, yachts, commodities, etc but also includes business related items such as computers and machinery. Basically it is anything that you can touch and can be moved.
The legislation also extends to indirect investment in residential and tangible moveable property which includes, subject to a few exemptions, shares in an unquoted company that owns such property.
Transactions with Connected Parties
SSASs can buy, sell or lease property to the sponsoring company or to members. These transactions must take place on fully commercial terms.
Schemes may borrow up to 50% of the net value of the fund. There are no conditions attaching to the use to which the borrowing may be put. It may be used to purchase a property or to fund drawdown payments. The limit applies each time new funds are borrowed but it does not need to be tested at other times.
The lowest age for drawing benefits is age 55. There is no upper age.
One of the main attractions of a pension scheme is that 25% of the fund value can be taken as a tax free lump sum when benefits are drawn, as long as the member does not exceed the lifetime allowance from all schemes. The lifetime allowance is £1.8m for the tax year ending 5th April 2012. It will reduce to £1.5m from 6th April 2012. Members will have the option to register to retain the limit of £1.8m, as long as no further contributions are made.
If the value of a person’s benefits exceed the lifetime allowance as the benefits start, then an additional tax charge of 25% is levied on any extra fund used to provide pension or 55% on lump sums.
Pensions are taxed through the PAYE system in the same way as earned income but no NI contributions are suffered. The member may suffer higher rate tax before retirement but be a basic rate payer after retirement meaning that 40% tax can be saved on contributions and 20% paid on the pension, at current rates.
Many people buy an annuity at retirement to provide certainty of income. However, some people would prefer the flexibility to keep their funds invested and withdraw funds as they need them.
Drawdown is a form of pension where an upper limit is set and the member chooses the amount of pension each year between zero and the limit. The limit depends on the member’s age and yields on gilts and is re-calculated at least every 3 years. It is based on the amount that might be secured by a single life annuity. There is no minimum amount that has to be drawn, at any age.
There is no requirement to buy an annuity at any age. There are no restrictions on the investments that can be made during drawdown but there is a need to manage liquidity to make the pension payments.
If a person has secured a minimum income (defined below), then extra funds can be drawn, in excess of the normal drawdown cap, with no limit. This is referred to as Flexible Drawdown. Such payments will be taxed as income, in the same way as capped drawdown. Because the payments will be in addition to existing income and are likely to be larger than normal income, the payments may take the person into higher income tax rates (40% or 50%).
The minimum level of secure pension income required is £20,000 p.a.. Income from sources other than pensions will not count. The following sources count:
Death in Drawdown
On the death of a member, any surviving spouse can continue drawdown in the scheme. Any drawdown funds paid as a lump sum are taxed at a rate of 55% and are not subject to inheritance tax. Funds not in drawdown would still be paid tax-free on death.
FOR GENERAL INFORMATION ONLY
Please note that this Memorandum is not intended to give specific technical advice and it should not be construed as doing so. It is designed to alert clients to some of the issues. It is not intended to give exhaustive coverage of the topic.
Professional advice should always be sought before action is either taken or refrained from as a result of information contained herein.