Both are pension arrangements into which a large range of investments are permitted including commercial property. As the arrangements are designed to ultimately provide an income in retirement, the investments cannot normally be accessed until retirement age (currently 50 but rising to 55 by 2010). In return for this loss of access and to encourage people to save for their retirement, tax concessions apply.

Who can invest?

In broad terms anyone below the age of 75 and resident in the UK can contribute to a pension arrangement.

Who advises on the investments?

The investments held will be based on agreed client financial objectives and attitude to investment risk, whether growth, income or a combination of the two. The advice as to what to invest in will usually be through an authorised financial adviser - City Trustees do not provide investment advice.

How much can be contributed to the scheme?

This depends on the residence status of the individual e.g. in the UK or overseas.

UK resident:

A UK resident can contribute up to the higher of £3,600 or 100% of UK taxable earnings (including earnings from investment and property companies) and gain tax relief; it is possible to contribute in excess of these amounts however such contributions will not qualify for tax relief. However, where the total contributions paid (by the individual and/or their employer) exceed an annual allowance (currently set at £235,000 for the tax year 2008/09 rising to £255,000 over the next three years), there will normally be a tax charge to you of 40% on the excess over the annual allowance.

Personal contributions made in excess of 100% of UK taxable earnings do not receive tax relief and do not count towards the annual allowance.

The annual allowance will not apply to any contributions made in any tax year in which benefits are drawn in full. However, tax relief still cannot be claimed on contributions in excess of 100% of UK taxable earnings.

Non-UK resident individual:

These are entitled to contribute any amount but will not be entitled to receive any tax relief on contributions.

Non-resident individual who was UK resident or had earnings chargeable to UK income tax in the last 5 years

Here one is entitled to contribute any amount but will only receive tax relief on contributions up to £3,600 gross (£2,808 net).

How much can an employer contribute?

There is no limit on how much an employer can contribute. However, there will normally be a tax charge to you personally of 40% on the amount over the annual allowance.

What is the tax position on employer contributions?

Employer contributions are allowed as a deduction for accounting purposes to receive tax relief, provided the contribution meets the normal rules for allowable deductions as long as they are 'wholly and exclusively' for the purpose of trade. The Revenue have indicated that the local inspector of taxes will be responsible for making this judgment in the first instance; where the inspector believes the contribution does not meet this criterion, the matter should be referred This means that some 'exceptional' contributions (e.g. a large one-off contribution made on behalf of a director or employee) outside of a normal pattern of contributions could be open to challenge. therefore any unusual employer contributions should be treated with caution and advice sought prior to the contribution being made.

What happens if an employer contributes more than the annual allowance?

If an employer contributes more than the annual allowance, there will normally be a tax charge on the individual of 40% on the excess of the aggregate of all employer and personal contributions made over the annual allowance. The exception will be for any contributions made in a tax year in which benefits are drawn in full, in which instance there will be no personal tax charge, irrespective of the size of the employer contribution.

What happens at retirement?

In broad terms the options are as follows:

Take up to 25% of the accumulated fund as cash through the 'pension commencement lump sum';
Take a conventional annuity whereby the value of the fund is exchanged for a regular income for life (some annuities can include guarantees);
Draw an income directly from the pension fund until the age of 75 (known as unsecured income) subject to an upper limit;
As there is no minimum income level attaching to unsecured income, if required no income could be taken prior to age 75;

At age 75 the rules change:

The pension commencement lump sum cannot be taken after attaining 75;
The upper and lower limits applying to how much income can be taken from the fund change;
The death benefits change (see 'What happens on death' below);

What happens on death?

If death occurs before benefits are taken then amounts up to the lifetime allowance (£1.65 million in 2008/09) can be distributed tax free.

If in the unsecured income phase, benefits within the lifetime allowance can be distributed to a spouse free of tax to continue to provide benefits. If distributed to anyone else, a 35% tax charge will apply.

If beyond the age of 75 and utilising the Alternatively Secured Pension (ASP) on death the fund must first be used to provide for any financial dependants (generally spouse but not adult children as they will not usually still be financially dependent). The spouse can use the fund to purchase an annuity or take over the fund and continue ASP (if the spouse is under 75 the unsecured income rules will apply rather than ASP). Where a member dies in ASP with no spouse or dependents, then the residual fund can be distributed to beneficiaries however this sum would be heavily taxed, being subject to unauthorised payment charge, unauthorised payment surcharge, scheme sanction charge and Inheritance Tax where applicable. HMRC consider that residual pension funds can pass to registered charities free of tax. It is important to note that the residual ASP fund cannot be paid out to beneficiaries personally, nor to other pension schemes as City Trustees will not make unauthorised payments under ASP. Where funds are paid to other family members as previously described, it is important to note that Inheritance Tax may apply.

What are the borrowing limits from A-Day in respect of property?

The borrowing limit for the scheme is up to 50% of the net fund value within the scheme. When assessing the scope for any new borrowing, any existing borrowings within the SIPP fund must then be deducted from the net fund value. So, for example, assuming a fund comprises only a property worth £400,000 against which there is borrowing of £100,000: Maximum borrowing: £400,000 - £100,000 = £300,000 (net fund value) * 50% = £150,000. Capacity for new borrowing: £150,000 (50% of net fund) - £100,000 (existing borrowing) = £50,000.

Can commercial property owned by the scheme member be put into their own SIPP?

Unlike the rules that applied before April 2006 where an individual could not sell a property they owned to their pension scheme, post April such a transaction will be allowed, as will joint ownership whereby the pension scheme and the individual could co-own a property.

If a SIPP is to purchase a property, this will need to be bought at market value and sufficient funds will be needed within the SIPP. Alternatively a property could be contributed 'in specie' (this means it is the asset itself that is treated as the contribution); where this is the case, the 'contribution' would be subject to the new contribution rules. i.e. up to the lower of 100% of annual earnings and the annual allowance. It should be noted that in specie contributions are based upon a monetary value and not the value of an asset. If the value of the asset is different to the monetary contribution then the outstanding amount will have to be paid and if there is an excess then a refund will be made. It is important to remember that when contributing a property into a SIPP the tax relief is granted just as it would when making a cash contribution. For example, if contributing a property worth £78,000 the tax relief received would be £19,500. It is important to remember the value of the property going into the SIPP will need to be the net value. If there is borrowing on the existing property, it must fall within the new limits and tax relief on the 'contribution' would only be granted on the equity in the property rather than the whole value. There would be stamp duty and other related costs to pay on an 'in specie' transfer. Where an 'in-specie' contribution is proposed, whether or not property, please contact City Trustees to discuss the specifics of the case.

Where existing funds are near to or exceed the Lifetime Allowance limit, can anything be done?

The post-April regime introduces the concept of a standard lifetime allowance (LTA), against which the value of benefits is tested each time benefits are taken. Any excess is taxed at an effective rate of 55%, whether this growth is achieved by contributions or by fund performance. Where pension rights are likely to be valued in excess of the standard lifetime allowance when benefits are to be taken, it may be appropriate to apply for transitional protection in order to reduce or eliminate the lifetime allowance charge. Your financial adviser will be able to aid you in making this decision.

How will the Lifetime Allowance apply?

The value of the standard lifetime allowance (LTA) has been set at £1.65 million for the 2008/09 tax year, increasing each year to £1.8 million by 2010/11. The level of the LTA will then be set for the next four years. Whilst it cannot decrease, there is no requirement for it to increase at any particular rate - indeed it would be possible for the government to leave it unchanged.

Although benefits taken before A-Day will not incur any lifetime allowance charge, the value of these funds is taken into account when you take any new benefits after A-Day. If in drawing benefits before A-Day, the value of benefits are deemed to be 25 times the maximum income at the last triennial review or, if no review has yet taken place, at the commencement date.

For example, David commenced drawdown from his SIPP in 2001. His maximum annual gross income at his triennial review (as dictated by the GAD) was £55,000, although he has chosen only to take income of £40,000. In May 2007 David buys an annuity with his retirement annuity fund valued at £400,000. The lifetime allowance calculation would be as follows:

Value of existing benefits:	25 X £55,000	£1,375,000
Value of new benefits:		£400,000
Total value of benefits to be tested:		£1,775,000

As the total value exceeds the standard lifetime allowance in 2008/09 by £125,000, this amount would be subject to a lifetime allowance charge.

The position is slightly different when testing death benefits against the lifetime allowance.

Which type of protection is available?

Two main forms of protection are available.
Anyone with funds at 5th April 2007 of £1.6 million or more can use primary protection to reduce the chance that they will have to pay a lifetime allowance charge on taking pension benefits. The level of protection available will depend on the value of the fund at the 5th April 2006 compared with the lifetime allowance of £1.6 million in 2007/08. For example, if a fund is worth £3.0million at A-Day the protection would be 200% of the standard lifetime allowance. If benefits were taken in 2010/11 when the standard lifetime allowance is £1.8 million and the fund is worth £4.0million, £3.6million (£1.8million x 200%) would avoid the lifetime allowance charge. The £400,000 excess would be subject to a lifetime allowance charge.

Enhanced protection offers complete protection from a lifetime allowance charge, whatever the value of your funds at A-Day. However, unlike primary protection, to be entitled to enhanced protection active membership must be ceased of all approved pension schemes after 5th April 2006. Therefore, whilst not being penalised for good investment performance, no further additional contributions can be made to any pension scheme.

Advice should be sought as to whether to register for protection and in which form (which may include registering for both primary and enhanced protection).

Can the tax-free cash entitlement in excess of 25% of the LTA be protected?

One is able to use primary protection, enhanced protection or both to protect current entitlement. However, in practice they work differently, making this a complex area on which you should seek independent financial advice.

How is protection registered?

A prescribed form (APPS 200) must be completed and returned to the Revenue, who will provide a certificate to confirm the protection granted.

The latest date protection can be applied for is the 5th April 2009. However, to be eligible for enhanced protection, no contributions can be made to any scheme after the 5th April 2006. It is therefore important to consider whether enhanced protection is required before making any contributions after that date.

No Protection – Tax Free Cash greater than 25%

If your tax free cash was greater than 25% of the fund as at 5th April 2006 and was permissible under the previous HMRC rules it is possible for this excess tax free cash to be protected. There is no requirement to apply for the HMRC protection.

This is a complicated area and advice should be sought especially in relation to of advice in relation to any transferring benefits.

Search the Site