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Small Business Pensions - New Pensions Simplification rules

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The Pensions Simplification rules present a huge opportunitiy for business owners. There is now significant scope to reduce tax liabilities by transferring funds into retirement planning but the pensions advisers at IFAs FreelancerMoney are urging caution as to how this new found flexibility is best exploited.

Many SME owners pay themselves tax efficiently low salaries and take dividend income instead but under the previous pensions regime they then found that they were unable to invest sufficient sums into their pensions because allowances were all based on a rigid percentage of salary and taxable benefits alone.

Under the new rules you are free to invest an employer pension contribution of up to £215k pa irrespective of salary and this would seem a gift to SMEs who can mainatin a low salary, avoid National Insurance, yet still be able to make significant savings in corporation tax via a pension investment.

Over 7 months into the new pensions regime there is still uncertainty as to how the new rules are being policed by the tax authorities however. Tony Harris at FreelancerMoney writes 'we seem to have moved from a regime where there was absolute clarity over the (admitedly restrictive) allowable contributions that could be made to one where employer contributions in particular could be open to challenge by the taxman.

As IFAs we have had many clients eager to make full use of this new flexibility and the prospect of virtually unlimited employer contributions suggested the prospect of dramatically reduced tax bills. Unfortunately as the mechanics of how the new rules will work in practice become clear it now appears as if this new freedom could, in reality, be hardert to exploit than we first hoped.

For a substantial 'employer' contribution to be allowable for tax relief, the final authorisation will potentially lay with the Local Inspector of Taxes, which implies that the new rules could trigger unwelcome interest from the taxman into an SMEs financial affairs. Investors must pass a test that the pension contribution was 'wholly and exclusively for the purpose of trade' and is not excessive. Clearly a situation where contributions are decided by the largesse of the local tax office could result in different allowable contributions depending on where an investors tax affairs are handled'.

FreelancerMoney has a number of high level feelers out to HMRC and will update Bytestart visitors as soon as there is any further clarification on this subject but in the same way that they urged clients to be cautious with regard to the promise of residential property investment into SIPPs, it could also be unwise to plan for what would effectively be almost unlimited pension contributions until there is a great deal more certainty as to how the new rules will be applied in practice.

Tony adds 'personal contributions, from a private bank account, will not attract the attention of the tax authorities to anything like the extent that a substantial employer contribution will. Compared to the age related maximum contribution (17.5 per cent to 40 per cent of salary) that used to apply, you are free to invest 100 per cent of salary which may offer increased scope for many SME owners to increase contributions. Invetsors could therefore consider switching company contributions to personal ones to avoid needing authorisation from the local tax office and as an added benefit you would be drawing dividends which would be subject to 19% but then reclaiming 22% pension tax relief.. Investors should use this opportunity to review their arrangements to ensure that they are still competitive given the huge changes to the pension landscape in recent years'.

If you would like to find out more about your pension options, please fill in this form, and Bytestart's IFA business partner, FreelancerMoney, will be in touch shortly.

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Posted November 16, 2006