DB SSAS guide
At a time when so many people are talking about leaving a defined benefit scheme, why could many business owners benefit from doing the opposite?
Final salary, or defined benefit (DB) schemes, have long been classed as attractive pension options, as they offer long-term, guaranteed income in retirement. The downside, however, has always been the loss of spouse’s income when the pension owner dies. In most cases, this results in only a 50% spouse’s benefit being paid.
But what if you could have all of the benefits of a final salary scheme, without the negative issue of the spouse’s pension?
Enter the defined benefit SSAS.
As the name suggests, this pension wrapper is a SSAS – Small Self-Administered Scheme. However, instead of using the money purchase pension rules, it uses defined benefit rules.
With these rules come some interesting advantages.
Contributions are not calculated using the usual limits of the annual allowance. The annual allowance is converted into a ‘pension promise’ or annual amount the scheme will pay in retirement. For example, a person who has £35,000 of their annual allowance remaining will be able to receive a £2,187.50 pension promise instead.
This pension promise is the scheme’s commitment to pay this amount each year, index-linked, when the member chooses to retire.
In order for the scheme, or the company, to make this commitment, it will need to pay a contribution in excess of the original £35,000 annual allowance. In this case the funds required would be £126,000. This amount would be paid from the company, with full corporation tax relief due, and be added to the member’s pension.
The reason such a large contribution is needed is that a team of actuaries uses long-term annuity rates to calculate the value of the annuity needed to purchase that amount of guaranteed income in retirement.
The benefit here is that a much larger pension fund can be created for the member.
It is significant to note that the scheme can issue a transfer value at any point. This would then convert the pension’s promises into a monetary amount. This amount can then be transferred into a SIPP or a standard SSAS, with the full value available to the member as drawdown, or 25% of the fund as tax-free cash.
Alternative Annual Allowance
Alternative annual allowance
This is a little understood part of pension legislation. The alternative annual allowance is an allowance that can only be used when you have a DB scheme.
Once you have triggered your MPAA – money purchase annual allowance, you are limited to pension contributions of £4,000 per tax year. However, if you have a DB scheme, you can make a further contribution of up to £36,000 per tax year (subject to the full £40,000 annual allowance being available).
This is interesting as this alternative annual allowance inside a DB scheme is treated like any other contribution. It uses the same rules as the previous example in the “Contributions” section.
So rather than an extra £36,000 being added to the pension, the company could make an annual pension promise of £2,250. The capital contribution that the company could make on behalf of the member would be £129,600. Not bad when the member previously thought they were limited to just £4,000 per tax year.
Allocating investment growth
The scheme may have multiple members, such as a director and his wife. But it would still have just one pension fund. This would be used to provide a pension promise for each member.
The amount of capital the pension fund has to back up this promise does not need to be shared equally between each member. This can be beneficial where one member has a large pension pot already, and the company desires to build up the pot of the lesser funded member. The investment growth in the main fund can be used to build the lesser fund of the other pension member.
This is advantageous as it allows the company to build up the pension of each member as fast or as slowly as they see fit.
Asset purchase loan
If your business wants to invest in some equipment or needs funding, you can access your SSAS for this purpose as well.
A dentist wants to replace his dental chair and x-ray device at a cost of £60,000. He could take finance over five years from the bank at a rate of 6.7%. Alternatively, he could use his pension as the lender and pay his choice of interest to the pension for the service.
This has several benefits. For instance, the interest is earned by your pension and not paid away to a third party. And it is very easy to access the finance rather than using a broker. As your pension is the lender you have some flexibility over repayment terms.
It is important to note that the limit for the loan is five years. So the loans are not ideal for purchasing buy-to-let property.
Having said that, the loan could be used to provide the development capital for a property refurbishment, as repayments can be agreed annually rather than monthly.
If your company is in good shape and you are investing to expand in a low risk way, using your pension as a loan mechanism could give you access to capital. And all while securing a 5% to 8% interest payment to your pension.
Some other things to consider
Unlike a usual defined benefit scheme, a DB SSAS pays out the entire value of the pension pot, up to the deceased member’s lifetime allowance, to the spouse or dependant. They can take this payment as cash, and as the original member’s death occurs pre-age 75, it is completely tax free.
Converting back to a SSAS in the future?
As you control the scheme, you can also control what happens to it in the future. If you decide that you would prefer to move the scheme back to a SSAS in order to access the pot as you see fit, this is completely possible. Most of our providers offer SSAS as well as DB SSAS, so the conversion from one to the other is very easy.
Using the DB SSAS for property purchases?
As with a usual SSAS, the scheme can acquire commercial property as an asset. The pension must hold a first charge over the asset. Be careful here as this will limit your ability to obtain a mortgage, because the lender will also be looking for a first charge.
The scheme can also lend the money to a limited company as long as adequate security on the loan is provided (note that further limitations may apply).
For the right client, a DB SSAS has multiple pension planning benefits. It leaves you in full control of your pension, while providing your company with further funding options.
For more information on whether a DB SSAS might be right for you, feel free to reach out to one of our advisers and we will be more than happy to discuss your case with you.
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