Open Letter to Gordon Brown MP, Chancellor of the Exchequer
Rt Hon Gordon Brown MP
Chancellor of the Exchequer
HM Treasury
1 Horse Guards Road
LONDON SW1A 2HQ
8 June 2007
Dear Chancellor,
Budget 2007 - Consultation Paper
Tax Relief for Pensions: Inheriting Tax-Relieved Pension Savings
Rowanmoor Pensions is the trading name of Rowanmoor Group plc, a company which we established to complete a management buyout of James Hay Consultancy. We have been providers of small self-administered schemes (SSAS) since 1979, are the largest independent providers of SSAS and, through a subsidiary, are regulated to operate self-invested personal pensions (SIPPs). Full details of our business and products may be found on our website at www.rowanmoor.co.uk.
We refer to the above consultation document.
At outset we would like to stress our agreement with Government policy, that a pension scheme attracts favourable tax treatment to ensure it is used to pay an income for life to its members. Many individuals choose self-administration to avoid the requirement to involve an insurance company in their affairs and particularly the requirement to purchase an annuity, at any age. Self-administered schemes can be invested to generate long term income without an early death leaving a windfall profit to an insurance company. Our experience in this field shows that individuals do not resort to self-administration as a means to leave tax-free accumulated wealth to their dependants, rather they choose it so that should they die early, their dependants benefit rather than the insurance company and its shareholders.
There are a number of significant issues of principle contained within the Government' current pension' policy and recent pensions legislation. As well as addressing the detailed questions raised in paragraph 9 of the consultation document, we believe it is right to raise the issues we have.
Our principal concern is that the practical application of recent pensions legislation results in a clear breach of the Financial Services Authority (FSA) principle 6, 'treating customers fairly'.
Whilst the Treasury, through the Financial Services Authority, has adopted the principle of treating customers fairly as the cornerstone of the regulation of the financial services industry in the UK, the Government has introduced pensions legislation with unfair tax penalties, has provided no means to mitigate these penalties and repeatedly changes the rules and tax charges.
The proposed tax regime for death benefits contained in the Finance Bill 2007 does not constitute fair treatment. For example:
The pension fund of a man with no spouse who dies a day before his seventy-fifth birthday will pass to his heirs outside his estate suffering no tax, providing he has not started taking a pension.
If he had taken his pension commencement lump sum (tax-free cash) and crystallised his pension fund, taking an unsecured pension, the lump sum death benefit is taxed at 35% before it is passed to his heirs.
Should he die when drawing an alternatively secured pension (ASP), on or after his seventy-fifth birthday, his fund will suffer tax at 64%, provided it represents less than 25% of the total value of the pension scheme. The balance of the pension fund remains to provide a pension for his beneficiaries.
If his share of the fund represents 25% or more of the pension scheme, then his fund is taxed at 82%.
Please see appendix 1 for a table on how the tax charges appear to apply.
This is not a tax regime that falls equally on all. Indeed, one would question the fairness or logic in how gaining the rights to more than 25% of a pension fund can justify an additional 28% in tax..
There is also an issue with the way the Act has been drafted in that the tax payable on death in ASP is, in part, payable by the recipient of the pension without access to the pension fund itself. This is because the unauthorised payment charge of 40% is a charge on the recipient and not the pension scheme. It is therefore quite conceivable that a minor, who was made a member of a pension scheme, 'inherits' an increased pension fund by way of a transfer of alternatively secured rights along with a large personal tax bill. If that minor has insufficient funds to pay that tax bill, 40% of the fund inherited, then we must presume he will, technically, go bankrupt - all for a pension fund he may not be able to touch for many years!
Irrespective of the fairness of the tax charges, we would recommend that the charges applicable on death, which arise from a transfer of alternatively secured rights (the unauthorised payments charge, the unauthorised payments surcharge and the scheme sanction charge) should all be payable by the scheme Administrator from the pension fund and not from the inheriting members' personal assets.
You will be aware of the view of Phillip Baker, QC that the tax penalties in Finance Act 2004, namely, the unauthorised payments charge, the unauthorised payments surcharge, the scheme sanction charge and the de-registration charge, are disproportionate given the potential mischief; that is the tax relief that would be paid as a consequence of investing savings in property, or as a result of indirect investment in business. The penalties are much greater than the tax loss and because the charges are automatic there is no opportunity for someone to appeal against them. Phillip Baker concluded that the penalty regime could come under scrutiny from the perspective of the European Convention on Human Rights.
We have seen arguments in support of the above tax charges that suggest that the tax rates are set to reinstate the tax lost to the Exchequer, yet to date I have seen no arithmetic to support those statements.
We also cannot understand the logic or fairness in the Government' objection to members' funds remaining in a pension scheme after death post age 75 and benefiting their heirs in the form of a pension. The UK is facing a long-term savings crisis. Allowing pension funds to be passed on in this way would help to alleviate this crisis. As a pension fund the inherited wealth remains invested until the beneficiary reaches retirement age and at this point tax is levied on the pension being drawn. We accept that a second tax-free cash entitlement from the fund may not be acceptable to the Exchequer but this could easily be removed from transfer lump-sum death benefits.
Other Government actions have been clearly unfair. At the Committee stage of the Finance Bill 2004 Members warned of the consequences of permitting residential property in pensions, yet the Government pushed this through. Then, after considerable work and cost to the industry to make the legislation a reality, the opportunity to invest in residential property was withdrawn, as was the ability to hold 'tangible moveable property' despite the impossibilities of defining such a term. We have also faced the withdrawal of pension term assurance. It seems acceptable for occupational schemes to provide life assurance for pension scheme members tax-efficiently, yet it is now unacceptable for someone with a non-occupational scheme to do so. Again, we are forced to look long and hard for the fairness and logic in this approach.
Our final concern on the subject of fairness is contained in paragraph 8 of the consultation document which clearly states that the Government is intending to introduce retrospective pensions legislation. We believe that this is totally unfair and leaves advisers and operators in a very difficult position. It is impossible to advise or take considered decisions when there remains a threat that rules could subsequently change to take effect from a date before advice was given.
We therefore believe, from talking with a number of clients, that it is extremely likely that the Government will be taken to the European Courts over these unfair tax penalties and charges. It will only be a matter of time before such a charge is levied and lawyers appointed. After all, if a pension fund is liable to so much tax why not spend some of that money fighting through the courts. Not a lot to lose but much to gain.
Turning to the detail of the Consultation Document, it is difficult to fully respond since the Government' aims and intentions are not clear. So much of the detail of the pensions legislation is extremely complicated and difficult to make workable. Without seeing the detailed proposal we cannot fully comment.
Q1 - Are there schemes with longstanding arrangements, which existed before 6th April 2006, that are paying scheme pensions and will be adversely affected by charges being introduced in circumstances set out at paragraph 6 above? Please provide details.
We have a number of clients who entered annuity contracts, within the then legislation, where on death of the member a monetary equivalent to the fund is returned to the member' estate. Such products are generally known as open annuities. It is likely that the Government' proposals will adversely affect these members.
Q2 - Measures will apply where rights of a person connected to the deceased are increased (except as authorised benefits). Are there any easements to this rule that would help with the administration of schemes where it would be onerous to find out information about connected persons from members or their survivors, but which do not provide a route to avoid the rule in circumstances where it is intended to apply?
The requirements placed on scheme Administrators and the retrospective information now being asked by HMRC has already become an unreasonable burden. Increasing the responsibilities further is likely to increase the cost of pensions administration still further and ultimately reduce the number of operators and consumer choice.
Q3 - These measures will be introduced at the earliest opportunity. Are there any cases where there would need to be an interval between the date the legislation was published to the date it becomes effective to allow individuals to reorganise their arrangements? If so, please give specific details.
We accept that the Government may introduce changes it believes to be in the interest of the Country at any time. We do not believe that making the proposed changes from any particular date will have an adverse effect on anyone unless the changes are made retrospectively.
Q4 - Are there any circumstances in which schemes would currently increase the pension rights of connected persons in schemes where a member with a scheme pension died before age 75? If so, please give specific details.
All schemes administered under common trust, i.e. where there is one trust fund to provide members benefits, as in defined-benefit schemes and employer sponsored defined-contribution schemes such as small self-administered schemes, will give the trustees the rights to increase members' benefits in the event of a surplus arising. Members of such schemes may or may not be connected. Typical examples of a surplus arising could be on the death of a member drawing a scheme pension or death of a member who had chosen to defer taking his pension prior to A-day.
Q5 - Would charges that applied in circumstances outlined at paragraph 6 above affect the administration by insurance companies of annuities, where the funds backing those annuities are pooled across a large group of individuals? If so, are there any easements to the rules which would help the administration, but which do not provide a route to avoid the rule in circumstances where it is intended to apply?
We do not provide or administer annuities.
We have sent a copy of this letter to members of the House of Commons Finance Bill Committee. and Pensions Consultation (Tax Relief for Pensions) HMRC Pensions Policy Team. Due to the importance of this issue we also plan to publish the letter on the Rowanmoor Pensions website and also to release it to the press.
Yours sincerely,
David Seaton
Director of Consultancy
Appendix 1
DEATH IN A PENSION
Appendix 1
DEATH IN A PENSION
| Death before taking benefits before age 75 |
Death after taking benefits before age 75 |
Death in ASP member's fund <25% |
Death in ASP member's fund >= 25% | |
|---|---|---|---|---|
| Fund on death (£) |
100,000 |
100,000 |
100,000 |
100,000 |
| IHT Payable by scheme (£)40% |
0 |
0 |
40,000 |
40,000 |
| Lump sum death benefit charge (£)35% |
0 |
35,000 |
0 |
0 |
| Residual fund (transfer of alternatively secured rights) (£) |
100,000 |
65,000 |
60,000 |
60,000 |
| Unauthorised payment charge payable by pension fund recipient (£)40% |
0 |
0 |
24,000 |
24,000 |
| Scheme unauthorised payment surcharge payable by pension fundrecipient (£)15% |
0 |
0 |
0 |
9,000 |
| Scheme sanction charge payable by scheme (£)15% |
0 |
0 |
0 |
9,000 |
| Pension fund recipient' total personal tax bill (£) |
0 |
0 |
24,000 |
33,000 |
| Total tax payable by pension scheme (£) |
0 |
35,000 |
40,000 |
49,000 |
| Total pension fund receivable by recipient as a pension fund under normal pension rules (£) |
0 |
0 |
60,000 |
51,000 |
| Payable to beneficiaries free from tax (£) |
100,000 |
65,000 |
0 |
0 |
| Total tax payable to Exchequer |
0 |
35% |
64% |
82% |
| Net cost of providing residual pension by personal contribution (£) |
60,000 |
51,000 | ||
| Income tax payer0% |
60,000 |
51,000 | ||
| Income tax payer22% |
46,800 |
39,780 | ||
| Income tax payer40% |
36,000 |
30,600 | ||