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UK Tightens Pension Tax Rules

Friday, May 27, 2011

The UK has launched two major new pensions tax policy initiatives, engaging in public consultation over plans to overhaul the rules on employer asset-backed contributions to certain pension schemes, and publishing draft legislation aimed at closing a loophole for UK residents transferring pension savings overseas.

The consultation on employer asset-backed contributions to defined benefit registered pension schemes is to last until August 16. The focus here is on the elimination of high levels of unintended tax relief which can arise from the ways some contributions are structured.

The government stresses in the consultation document that leaving the rules unchanged is not an option, because of the costs to the Exchequer of the overpayment of relief. Changes would need to be proportionate and seek to minimize administrative burdens, the consultation paper states.

According to the paper, the government is considering two options:

  • Option A: providing tax relief only when cash is received by the scheme, removing up-front relief. Tax relief would only be given when cash changes hands between the employer and pension scheme, or when the scheme acquires full title to an asset that can be readily converted into cash;
  • Option B: aligning the tax rules with accounting rules, so that the tax treatment of the arrangements as a whole accurately reflects the economic substance of the transaction. Where arrangements are recognized as financial liabilities in accounts, up-front relief, based on the accounting value of the asset, would be available.

Neither option would affect the current tax treatment of straightforward cash contributions, or apply to transactions that have already taken place.

From the paper, it is clear that the government considers Option B as preferable, as it feels the changes herein would balance remaining unintended excess relief and allow flexibility in arrangements, without causing undue administrative or compliance costs to employers, schemes or the government.

The government intends to organize meetings with interested parties, who it deems to be: sponsoring employers, administrators and trustees of the schemes; advisors of employees and trustees using the arrangements; and pension industry representative bodies.

Brian Peters, pensions partner at accountancy firm PwC said of the consultation: "Almost a fifth of FTSE 100 companies have now used some form of asset to cover pension scheme deficits. The government recognizes these structures are an important tool for organizations to manage pension shortfalls, but a balance needs to be struck with the tax relief granted. The Revenue has set out two options to achieve this balance. The second option, whereby tax relief is granted commensurate with the commercial value received by the pension scheme, is likely to prove most popular but further clarity is needed to see how this would work in practice."

Meanwhile, the government has also released legislation for consultation giving effect to pension tax changes announced on April 6.

Once passed, the legislation will be backdated to April 6, and target Qualified Registered Overseas Pensions. In the opinion of the Treasury, it will prevent individuals from taking advantage of a tax loophole that would have emerged, had the government not taken action on the matter. According to HM Revenue and Customs, the government's intention is to prevent tax avoidance through the interaction of relief for pension savings and the provisions of certain double tax arrangements.

The legislation will provide that, notwithstanding the terms of a double taxation arrangement with another territory, a payment of a pension or other similar remuneration may be taxed in the United Kingdom where:

  • The payment arises in the other territory;
  • It is received by an individual resident of the United Kingdom;
  • The pension savings in respect of which the pension or other similar remuneration is paid have been transferred to a pension scheme in the other territory; and
  • The main purpose or one of the main purposes of any person concerned with the transfer of pension savings in respect of which the payment is made was to take advantage of the double taxation arrangement in respect of that payment by means of that transfer.

In the event that tax is paid in the other jurisdiction, appropriate credit will be available against the UK tax chargeable.

Commenting on the legislation, Exchequer Secretary to the Treasury David Gauke said: "The government has set out a clear strategy on preventing tax avoidance. We will not hesitate to take action to stop those who seek to take unfair advantage of unintended tax loopholes. The measure demonstrates our commitment to act quickly to close these."

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