Independent Financial Advisors for IT Contractors
Published on 19th February 2007
After suffering 10 months of confusion and anxiety, Contractors, their Pension Advisers and Accountants can breath a huge sign of relief after clarification this week by HM Revenue & Customs (HMRC) regarding how pension contributions from one-man limited companies will be assessed for tax relief.
The 'wholly & exclusively' rule that seemed to spell disaster for any Contractor hoping to reduce his/her tax bill by way of a company sponsored pension contribution will only be applied in limited circumstances it has emerged.
This is a massive relief given that the original guidance published for the new Pensions Simplification rules (known as 'A; Day) in the HMRC Business Income Manual stated that pension contributions would only qualify for tax relief if they were "wholly and exclusively" for the purpose of trade. In reality this cast a shadow of doubt over what Contractors could reasonably classed as "wholly and exclusively" and the new rules also stated that responsibility for assessing whether a company sponsored investment was eligible for the lucrative tax breaks associated with pensions fell to the local inspectors of taxes.
Investors and their Advisers soon woke up to the prospect that the new rules encouraged a situation where pension contributions could even be influenced by postcode given the likelyhood that tax relief awarded in one locality could well be disallowed in another. To further complicate matters, prior approval of pension investments by the local tax office was not possible and it was only after funds had been irreversibly sent across to the pension company that the taxman would pronounce as to whether relief was actually allowable.
More prudent advisers cautioned their clients against making substantial investments until the long awaited clarification was forthcoming but as 2006 gave way to the run up to the tax year end there was still no sign that Contractors would be able to exploit the new pensions 'A' day freedoms that they kept reading about in the Sunday press.
Cynics suggested that the authorities were saving £100s millions in tax relief as a result of dragging out the guidance and we were faced with the farcical sight of Local Inspectors reverting to the old, pre-A-Day pension maximum funding rules in the absence of any firm rules from the centre. In the last few days however, and to the relief of potential investors, the new guidance (BIM46001) now confirms the payment of a pension contribution is part of the normal costs of employing staff. As a result the "wholly and exclusively" rules will generally only be considered in limited circumstances.
The guidance states "It [the contribution] will only be disallowable where there is an identifiable non-business purpose for the employer's decision to make the contribution to a registered scheme, or for the size of the contribution."
Two areas that could potentially still fall foul of the Inspectors are where investments of a 'non-trade nature' (i.e. excessively large in relation to the value of the individual to the business) are paid 'in respect of a controlling director or an employee who is a close friend or relative of the controlling director or proprietor of the business' and secondly where 'contributions are paid by a party other than the former employer after a trade has ceased or been sold, as such contributions are not allowed because they are not paid by the employer'.
With respect to HMRCs take on the application of the new rules they concede "It should be borne in mind that the significant increase in qualifying limits with effect from 6 April 2006 will in itself facilitate and encourage an increase in contributions over earlier periods." (BIM46035)
In reality a Contractor working through his or her one-man limited company should have very little to fear now and will be able to fully exploit the massive tax saving possibilities afforded by the new lifetime pension limit of £1.5 million. There is also now freedom from the much criticised annuity purchase that used be a feature of pensions and far greater flexibility as to how and when pension benefits must ultimately be taken. These factors combine to make pension investment a far more attractive prospect than under the previous regime.
Given the various challenges that face composites and MSCs and the closer scrutiny of expenses that many contractors look to face in future, these new pension opportunities couldn't have come at a better time. The likely stampede back to Personal Service Companies will coincide with increased scope to make employer pension contributions which could well represent the most tax efficient method of transferring substantial funds from contract and into personal hands.
For once Contractors look set to be able to benefit from a HMRC ruling instead of having to pick up an increased tax.
Steve BirchallThe whole process was so quick and easy with no worries...
Nick WilliamsI would have no hesitation in recommending your company to others...
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