Tapered Annual Allowance Solution
Exploring possible solutions to the annoying ‘pension tapered annual allowance’, and how to get your contributions back on track.
As you may already know, the tapered annual allowance was introduced in 2016. It is designed to stop high earners saving too much into a pension and, in essence, stop you claiming too much income tax relief.
There are virtually no solutions to this, apart from one. And that is a DB SSAS.
Before I go on to explain what a DB SSAS is, I thought it would be better to get straight to the detail and demonstrate how it may be able to help you.
Rather than being limited by the lowest possible tapered annual allowance of £10,000 in each tax year, this unique pension scheme could allow you to contribute up to £36,000 each tax year, without falling foul of the tapered annual allowance. Corporation tax relief is due on the full contribution, and it’s all in a pension that has been pre-approved by HMRC.
This will allow you to continue to build up a pension for the future, even though your income may exceed £150,000 a year.
So how does it work?
DB SSAS stands for ‘Defined Benefit Small-Self-Administered-Scheme’. It is a pension that is established and operated by a limited company. The company can be a property company (i.e. investment company), such as one that is used for a buy-to-let portfolio. Or a regular trading limited company can be used as well.
The ‘defined benefit’ part is the essential piece here. A defined benefit pension does not have a fixed cash value benefit (other than when you transfer out of the scheme) like a SIPP or a defined contribution scheme. It has a pension promise on annual income in retirement.
For example, a SIPP may be worth £500,000. However, a defined benefit scheme would be worth a pension promise of an annual income, for life. The fund in the scheme is still within your investment control, including the option to transfer it to another pension plan/scheme in the future.
So, when a company is funding this kind of pension, it must contribute the amount of money needed to provide a specifically targeted annual pension benefit for the member at a set retirement date. The amount the company needs to contribute to meet the target is not limited or assessed by the annual allowance, only the amount of extra annual pension promise the member receives.
For example, should a company want to provide a scheme member with a future defined benefit scheme pension of £2,500 a year, the actual company contribution required to be made in one single payment, would currently be circa £120,000 (assumes male under 55, selecting age 55 scheme retirement date.) This is calculated by a team of pension-qualified actuaries. They use long-term annuity rates to predict how much money will need to go into the scheme for it to pay the £2,500 p.a. for the life of the pension member.
Although the details and the mechanics of the scheme are complex, its ability to build your pension pot is not.
Tapered annual allowance contributions
How you invest the funds in a DB SSAS is entirely your choice. As the pension pot will become quite sizable, quite quickly, we usually recommend a panel of discretionary fund managers who have a good track record of managing larger accounts.
What if death occurs while in the DB SSAS?
If death should occur before age 75 while your pension is still part of the DB SSAS, your beneficiary can withdraw the cash equivalent as a tax-free lump sum up to the pension lifetime allowance.
We never advise that a DB SSAS be held after age 75. Therefore, I will not explain the treatment of the scheme in these circumstances.
The right decision for you today may not be the right one tomorrow. The great thing about creating your own pension scheme is that you are in the driving seat. If, in the future, your pension is fully funded and the thought of a £1million pension pot is more attractive than a promise of annual income for life, you can simply convert the DB SSAS into a normal SSAS and the full value of the pension would become accessible as a regular pension pot.
Other benefits of a DB SSAS
Should your spouse also work for the company, you could add them as a member and they too could start to build up a considerable amount of pension benefit for the future. They would need to be an employee of the company. However, this does not need to be in a full-time capacity.
Loan for your business
The DB SSAS also has the ability to issue a loan to your company for the purchase of plant or machinery or other company expenditure it would spend in the course of operating its business. For example, you are a dentist who wants to purchase a new dental chair on finance. Instead of paying the interest to a finance company, your pension can provide the loan over a maximum of five years. The profit from the interest would form part of your future pension, rather than go as profit to a third-party lender.
There are limitations here. The loan money taken from the SSAS must be less than 50% of the total net value of the SSAS. It must be repaid via equal instalments of capital and interest each year over a maximum of five years. The interest rate must be a minimum of 1% plus base rate, or up to the rate deemed commercially available via main high street banks. Finally, you need to be able to offer first charge security on the total loan and interest due at all times the loan is in effect.
Investing into an unlisted company
You can make investments into an unlisted company. For example, a dentist wishes to buy a stake in a practice he works for. He could purchase up to 19% of the business through his pension. However, this amount cannot exceed 5% of the value of his SSAS if the dental practice is the sponsoring company to the DB SSAS. So, limitations will apply in the case of all SSAS schemes.
If you’re wondering if this kind of pension is something you could benefit from, give one of our team members a call. We will be happy to discuss the options with you over the phone initially, then at a face-to-face appointment if you wish to take things further. You can also read more about DB SSAS in the following article – DB SSAS Guide
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