The PPF finalises the 2016/17 levy

The Pension Protection Fund has confirmed that the 2016/17 pension protection levy will go ahead with no significant changes from its September proposals (see Pensions Bulletin 2015/41).  So, the pension protection levy estimate for 2016/17 will be that which was proposed in September, ie £615m.

As last year the risk-based element of the levy is to be calculated with reference to a scheme’s underfunding risk and insolvency risk as follows:

• A scheme’s underfunding risk is determined by examining its assets and liabilities (with market volatilities smoothed over a five year period ending on 31 March 2016) and is taken as the larger shortfall between the smoothed figures and those that have been smoothed but also subject to stresses to allow for investment and funding risks. Schemes with PPF liabilities of £1.5 billion or more will have to carry out their own bespoke stress calculations for investment risk (other schemes can choose to do so).  Underfunding risk, and by association the risk-based levy, is zero if there is no shortfall in both unstressed and stressed scenarios
• A scheme’s insolvency risk is determined by taking the sponsoring employers’ “PPF-specific” risk scores on the last working day of each month and averaging over the year to 31 March 2016. The average is then converted into an insolvency probability by reference to a table that is split into ten insolvency bands

In supporting documentation the PPF has published:

• Its conclusions on the consultation in the form of a policy statement
• The final determination that sets in stone the 2016/17 levy calculation, together with a number of appendices
• Standard form contingent asset agreements for use by schemes entering new agreements – these are unchanged from 2015/16 other than type C(i)
• A number of certificates such as that relating to asset-backed contributions; and
• Guidance materials in final form, including those on asset-backed contributions, the bespoke stress calculation, block transfers, contingent assets, deficit-reduction contributions, and exclusion of mortgages. The levy practice guidance will follow later

Changes following consultation

As a result of considering responses to the consultation, some small changes have been made to the proposals.  The more material of these include:

• The proposal to move the date of currency conversion for all non-sterling accounts is delayed until the 2017/18 levy season (thus avoiding the situation where 2016/17 Experian scores could change for companies whose accounts – and possibly ultimate parent’s accounts – are not in sterling)
• New employers will be able to submit audited interim accounts to Experian if the entity could not otherwise be scored

More substantial changes will be considered on a triennial basis, with work on the next levy triennium, commencing in 2018/19, already underway.  However, in advance of this, the PPF will also be carrying out analysis to see whether further changes to the rules are necessary for 2017/18 to reflect the introduction of the new Financial Reporting Standard FRS 102.

The PPF will update the scores that are shown on the Experian Portal, for scores from April 2015, to be on a basis consistent with the final rules.  Given the minor changes from the draft rules this is not expected to impact many schemes.

Contingent assets

The PPF has completed its review of contingent assets for 2015/16, which has resulted in a lower level of rejections than for 2014/15, but one that remains above the levels it would hope to see.  The PPF sets out some key issues coming out of the review and, in particular, says that trustees should ask probing questions of the scheme employers/guarantors before confirming the level at which to certify any guarantee.

Re-invoicing of incorrectly classified “Last-Man Standing” schemes

The PPF received a number of questions and comments about how it intends to conduct the exercise of re-invoicing incorrectly declared associated last-man standing schemes for prior years and in the policy statement sets out some further details.

Deadlines for the 2016/17 levy season

The deadlines for providing information to the PPF are as proposed in September – namely:

• Midnight at the end of 31 March 2016 for the compulsory submission of scheme returns (including any voluntary section 179 valuations), and certification/re-certification of asset-backed contributions, mortgages (to Experian), and contingent assets
• 5pm on 29 April 2016 for certification of deficit-reduction contributions; and
• 5pm on 30 June 2016 for certification of full block transfers that have taken place before 1 April 2016

Comment

The usual levy reduction opportunities continue to be available, such as sending in deficit-reduction certificates and certifying new contingent assets or re-certifying existing ones.  Where there are existing mortgages, trustees and companies may also wish to consider the implications of the PPF’s new re-certification rules.

Effective monitoring of employers’ Experian insolvency risk scores remains an ongoing task.  And with the PPF updating scores from April 2015, schemes will now be able to review what information the PPF has or has not taken into account and ensure information used is correct.

2016 Lifetime Allowance reduction – more information on the Protections

The Lifetime Allowance (LTA) will reduce from £1.25m to £1m on 6 April 2016 with a provision for it to increase in line with the CPI for the tax year 2018/19 onwards (see Pensions Bulletin 2015/30).

The combination of the draft clauses for the Finance Bill 2016, accompanying material, and HMRC’s Newsletter 74 (and Newsletter 73 before it) now give us a near full picture of how HMRC intends to implement the 2016 protections alongside the reduction.

• Fixed Protection 2016 (FP2016) and Individual Protection 2016 (IP2016) will be available for those who wish to apply for them, and will be similar (but not identical) to the 2014 versions. So individuals holding FP2016 will have a personal LTA of £1.25m but, amongst other conditions, will have to stop accrual on 5 April 2016.  Individuals who qualify and register for IP2016 will have a personal LTA of the HMRC value of their pension savings on 5 April 2016 subject to an overall limit of £1.25m
• The key differences from the 2014 protections centre round registration and timing – and in particular there will no deadline for applications to register
• Individuals will apply online and, subject to passing checks, will be given a reference number from HMRC. Newsletter 73 indicated that HMRC will introduce an online service for scheme administrators to check a member’s protected status, but at the moment it is exploring options and more information will become available in due course
• Newsletter 73 stated that individuals “will need the HMRC reference number if they want to rely on the protection. This means that those wanting to rely on [either protection] should apply before they take any benefits on or after 6 April 2016”.  The Bill drafting suggests that this means that (unlike 2014 protections) the protected LTA will not read back retrospectively – “benefit crystallisations” that happen between 6 April 2016 and ultimate registration (which could be many years hence) will be compared to the unprotected LTA – bar limited stated exceptions (eg the initial interim process)
• The law will not be in place until July 2016 – when the online window will open. If a member plans to have a crystallisation in this three month interim period a special process applies (see more details in this Pensions Bulletin’s item about Newsletter 74)
• Another difference from the 2014 protections is that all members will have the right to ask their schemes to provide “such information… as is necessary” for the individual to calculate their pension amounts to register for IP2016, within three months of request, and that right will persist until 6 April 2020

Comment

The variations from the 2014 version of the protections as drafted are subtle but important.  Scheme administrators will need to plan carefully how their processes need to change to accommodate them – as well as the fact of a greater volume of cases with protection, which would benefit from protection not yet registered for, or indeed which will have a LTA charge to administer.

The new information obligation is an example (for IP2014, with no statutory obligations, many schemes provided the few quotations requested solely out of goodwill).  There may still be relatively few requests, but they could come from deferred members or active ones.  Should trustees obtain bulk reports of DC fund values as at 5 April 2016?  Probably.  Should they bank bulk DB calculations for all active and deferred members as at 5 April 2016?  Possibly.  For some lucky schemes, the calculations required by HMRC may already be being calculated for other purposes; but not for all.

As for past reductions in the LTA, a draft amendment clause is included aimed at ensuring that, where an individual dies before 6 April 2016 but a relevant lump sum death benefit is paid on or after 6 April 2016, the relevant lump sum death benefit will be tested against the standard LTA at the time of the individual’s death.

Other aspects of the Finance Bill 2016 draft legislation

The draft Finance Bill 2016 legislation was published on 9 December 2015.  The headline content for pension tax is the reduction in the LTA from April 2016 and the associated tax protections (see the article above for more on this).  The other items directly relevant to pension tax matters are set out below.

The closing date for comments is 3 February 2016.  The usual next process will be that the Bill will go through Parliament for comment in the spring and then be given Royal Assent in July 2016, some elements having retrospective effect.  (Of course the announcements due on 16 March 2016 on the future of pension tax relief could make all this moot.)

Dependants’ scheme pensions

The draft legislation is HMRC's starter attempt to address the long-standing problematic provision in pension tax law relating to the pension amount that can be paid to dependants following the death at or after age 75 of an individual who started to draw scheme pension after 5 April 2006.  The current regime requires a scheme to carry out a (flawed) test at the individual’s death and counts part of the dependant’s pension as an unauthorised payment in a range of circumstances, many clearly unintended.

Comment

HMRC’s proposed changes keep the current test unchanged, but broadly carve out lowest-pensioned dependant pensioners from suffering its consequences.  It is not the broader solution that we had hoped for following many years of lobbying– a solution that would avoid setting up painful administration systems, and make it possible at retirement to know if a given member/dependant pension combination was “safe”.  The issue already confuses communications in a variety of exercises (such as pension increase exchanges) and any surrender.  We hope there is scope for getting more change during the consultation process.

Bridging pensions

Following the introduction of the new single-tier state pension from April 2016, legislation will be introduced to allow the pension tax rules on bridging pensions to be “aligned with Department for Work and Pensions legislation”.  The draft legislation simply removes the existing legislation on bridge pensions framed around state benefits.  The actual details will appear in regulations not yet framed.  HMRC states that it will be talking to industry representatives about what the new state pension means for pension schemes and the bridging pensions they offer.

Correction to Enhanced Protection and Primary Protection

Changes are also being made to the Finance Act 2004 to ensure that individuals who have primary or enhanced protection, with no lump sum protection (or primary protection with a lump sum protection on the protection certificate), receive the pension commencement lump sum intended by the legislation.

Inheritance tax and undrawn funds in drawdown pension schemes

As announced at the Autumn Statement, draft legislation ensures that a charge to inheritance tax will not arise when a pension scheme member designates funds for drawdown but does not draw all of the funds before death.  This will be backdated to apply to deaths on or after 6 April 2011.

HMRC Newsletter 74 – more on the 2016 Lifetime Allowance protections – but not yet on the Annual Allowance

HMRC’s Newsletter 74 contains more information about the Finance Bill 2016 material referred to above.

In relation to the 2016 Lifetime Allowance drop, the Newsletter includes an outline of the interim process through which members can rely on the new protections from 6 April 2016 until the new online self-service registration is available in July 2016.  Individuals wanting to take benefits in the interim period and to rely on a 2016 protection must write to HMRC with certain specified information (mostly about whether they hold a disqualifying earlier protection).  HMRC will check this against its records and if all is in order will write to the scheme member with a temporary reference number to provide to their scheme administrator.  This temporary reference number will only be valid until 31 July 2016 and a full permanent reference number must be applied for when the online registration becomes available.  Scheme administrators “will not be able to use the temporary reference in reports to HMRC and must wait for the permanent reference number from the member”.  More guidance on this will be provided “in due course”.

The Newsletter also provides sample notice wording which HMRC suggests may be useful for administrators to use when communicating the LTA reduction to members.

Comment

As HMRC says, time is running out for employers and trustees to make sure that members know about the reduction in the LTA so can plan appropriate action.  HMRC’s sample wording provided may be a useful starting point for some – but if used, we would certainly suggest one important addition, which is the action (typically opting out of accrual by 5 April 2016) a member needs to take to avoid disqualifying themselves from Fixed Protection 2016 before they have even registered for it.

Relating to the Annual Allowance, the Newsletter promises that draft regulations will be published early in the New Year, for a short period of consultation, to implement appropriate changes to the statutory burdens on schemes to provide information to members (ie the “pension AA savings statements”).

Comment

We look forward to the draft AA regulations and hope that HMRC creates a proportionate approach to adjust the information requirements to suit a 2016/17+ world where an individual’s annual allowance could be anything from £40,000 to £10,000, and the trustees will not know the number.  But we also note that there need to be changes to the legislation on “Scheme Pays” obligations too.

Amongst other matters the Newsletter covers are:

• The promised list of main changes made to the Pensions Tax Manual following the recent update (see Pensions Bulletin 2015/52)
• That there are still outstanding annual returns for 2013/14 and 2014/15 due from administrators operating relief at source. As HMRC stated in Newsletter 72 (see Pensions Bulletin 2015/42) these returns are particularly crucial because of the introduction of the Scottish Rate of Income Tax (at least for the moment there is no complex money adjustment given that the Scottish rate has started at the same level as the rest of the UK rate – though it may change next year).  HMRC says it will give scheme administrators three opportunities to submit this information successfully and if failure occurs on the third submission HMRC will stop all future interim repayments until a further re-submission is received and deemed successful
• Further clarification on reporting flexi-access and death benefit payments using RTI

Tax court hoists HMRC on its own petard on interpretation of tax statute

In a victory for common sense the First-tier Tribunal (Tax) has held that a three bedroomed semi-detached house owned by an “investment-regulated pension scheme” (or a small self-administered pension scheme, SSAS, in old money) which was used to house labourers employed by the sponsoring employer is not “taxable property”.

This outcome means that a tax assessment for over £100,000 of scheme sanction and unauthorised payment charges raised personally against the SSAS trustees/members is struck down.

J&A Young (Leicester) Limited runs a recycling business.  Near their Loughborough site they bought a house to accommodate the (mostly Polish) labourers who they employed.  This house is owned by the SSAS which is set up to provide retirement benefits for the owners of the family business.

Under the pre-2006 pensions tax code SSASs were not allowed to invest in residential property.  This restriction was relaxed and then re-imposed in partial form under the 2006 pensions tax code.  The legal mechanism by which this was done was to effectively prohibit SSASs – via the punitive tax charges referred to above – from investing in “taxable property”.  Taxable property is defined in the tax legislation as residential property, but with two exceptions which were tested in this case.

The first is “Condition A”, one of which conditions is that the property is occupied by an employee who is required by his contract of employment to occupy the property.  HMRC successfully argued that the terms of the labourers’ contracts were such that they were not required to occupy the property.  This does seem to accord with reality as reported here.

“Condition B” was a different matter though.  The point of statutory construction here was that the property be “used in connection with business premises held as an investment of the pension scheme”.  This was crucial because the recycling site is a commercial property also held as an investment of the SSAS.

The court reviewed the judicial authorities on the meaning of the prepositional phrase “in connection with”.  Should it be interpreted widely or narrowly?  The court held that it should be interpreted widely, citing, amongst other things, a Court of Appeal case where HMRC had successfully argued for a wide interpretation on precisely the same phrase.  By using such a phrase the court held that Parliament had clearly intended to give a broad meaning to the Condition B exception.  Had it wished to give a more restrictive meaning it was inconceivable that it would have used the phrase.

The court went on to consider HMRC’s Technical Note that accompanied the legislation.  This stated that the point of the taxable property provisions was to prevent SSAS members/trustees from investing in residential property the benefits of which they would enjoy themselves, which was clearly inapplicable here.  It was silent on the point at issue.

Accordingly the court upheld the appeal against the tax assessment made against the SSAS trustees.

Comment

As it was so palpably obvious that the whole point of the SSAS owning this house was to provide accommodation for the employer’s labourers we wonder what process caused HMRC to think that it was a good use of public funds to defend this assessment in court.

While this case does have a narrow direct application there are probably a couple of broader lessons to be drawn.  In a pension tax regime that is near fully codified, HMRC may well be bound by the letter of the law as supported by technical material provided to Parliament when that law was made.  Subsequent attempts to re-interpret the law, whether through litigation or simply by means of online guidance could prove to fall short of the mark.

FRC proposes 2016/17 pension scheme levies

The Financial Reporting Council has published a consultation paper setting out its draft plan, budget and levy proposals for 2016/17.

The FRC’s proposed budget for 2016/17 is slightly lower than that agreed for 2015/16.  However, as it no longer receives a Government contribution towards its funding and it feels that it needs to bolster its reserves, the FRC is proposing a significant increase in levies.  That proposed for the pension sector is to increase from £2.55 to £2.95 per 100 members and as currently, only those with at least 1,000 members will be required to pay the levy.

On actuarial matters, the FRC says that during 2016/17 it will complete its updated framework of actuarial standards and consult on whether its independent oversight of the actuarial profession remains necessary and appropriate.

DWP lays saving provisions for schemes with reference scheme test underpins

The Department for Work and Pensions has laid an Order before Parliament that, amongst other things, provides some breathing space for schemes that are contracted-out on a salary-related basis and whose rules contain a reference scheme test underpin formulated through referring to the soon to be repealed sections of the Pension Schemes Act 1993.

There had been concerns that the repeal of the reference scheme test would make nonsense of the rules of such schemes – particularly for DC schemes.  However, the Pensions Act 2014 (Commencement No.7) and (Savings) (Amendment) Order 2015 (SI 2015/2058) saves these provisions on an indefinite basis for such schemes, including those that ceased to contract out some while ago.

The Order also preserves the current effect of anti-franking for those who ceased to contract out before 6 April 2016 whilst continuing to accrue benefits.  This corrects an oversight when the Pensions Act 2014 (Savings) Order 2015 was made, the effect of which could have meant that all anti-franking calculations carried out in respect of such individuals would need to be revisited.

Finally, the Order preserves, for three years, the powers of HMRC to approve arrangements for schemes ceasing to be contracted-out in relation to those schemes that ceased to contract out before 6 April 2016.  It also enables regulations to be made in relation to national insurance credits in the new state pension system.

EIOPA consults on improving communication with occupational pension scheme members

In its consultation paper published this week the European Insurance and Occupational Pensions Authority (EIOPA) looks at member communication by pension schemes and insurance companies, summarising existing practices across the EU.  The paper looks in particular at:

• How the welcome or enrolment pack is transmitted to new members
• The ways in which active and deferred members receive regular information about the status of their individual pension entitlements
• Whether there are any retirement planning tools made available to members
• How ad hoc information on changes directly affecting pension scheme members is being communicated
• How to inform scheme members about their options when they change job, including for pension transfers; and
• Once the point of retirement is drawing closer, whether, and how, scheme members should be informed about the options available

The analysis concludes that most member states follow a rules-based approach towards disclosure and communication, with most information being supplied by the pension scheme or insurer rather than the sponsoring employer.  It also finds that paper remains the most prevalent communication channel, although there is an indication of a shift towards the use of electronic communication channels.

Building upon these findings, as well as its own research, EIOPA sets out seven uncontroversial “Good Practices” which it believes have particular merit in improving the communication tools and channels to occupational pension scheme members.  These are neither binding on any party nor subject to the “comply or explain” principle and are not intended to be exhaustive or universal.

Consultation closes on 22 March 2016.

Christmas and New Year break

This is the last edition of the Pensions Bulletin for 2015.  It will return after the Christmas and New Year break.  May we wish readers a merry Christmas and a prosperous New Year!

This Pensions Bulletin does not constitute advice, nor should it be taken as an authoritative statement of the law.  For further help, please contact David Everett at our London office or the partner who normally advises you.