Business owners, how to get tax relief on an asset you already own!
We have received many requests for more information on making in-specie contributions to pension funds.
‘In Specie’ is a Latin term meaning ‘in the actual form’. Transferring an asset ‘in specie’ means to transfer the ownership of that asset from one person/company/entity to another person/company/entity in its current form, i.e. without the need to convert the asset to cash.
In specie transfers between different pension schemes have been commonplace for many years and they usually occur between different Small Self-Administered Schemes (SSASs) and/or Self-Invested Personal Pensions (SIPPs). Transferring an asset from outside of a pension scheme into a pension scheme without selling it and transferring the cash proceeds, is commonly known as making a contribution ‘in specie’. This is much less common, with very few companies willing to accept in specie assets as pension scheme contributions. Questions have always arisen over what type(s) of in specie contributions qualify for tax relief and which don’t, when the tax relief is calculated, how it is applied and from whom the contributions can be accepted (the connected party restrictions).
From 6 April 2006, registered pension schemes have been able to deal directly with connected parties in the buying and selling of most kinds of asset and HMRC has also clarified the position on tax relief. This opens up the possibility of an individual’s non-pension assets being contributed to a registered pension scheme.
There are still some restrictions on these transactions imposed by HMRC. In addition, for all practical purposes, they are confined to transactions between investment regulated pension schemes (the post A-Day collective name for SSASs and SIPPs) and connected parties. Even then, the trustees of the receiving scheme may not accept the asset if it’s deemed unsuitable for the investment strategy of the scheme.
So, in theory, as well as accepting in specie transfers from other pension schemes, pension scheme trustees can now accept in specie assets as pension contributions AND, most importantly, these contributions can qualify for tax relief…but only if certain criteria are met.
In theory, pension schemes can invest in almost anything. However, where this involves investing in ‘taxable property’ or transactions with connected parties, there are consequences and sometimes restrictions:
Where a transaction takes place between a scheme and a connected party, the transaction must be done at arm’s length or it may create an unauthorised payment. ‘Arms length’ means it must be on normal commercial terms.
If it is not done at arms length and as a result of this the member financially benefits, the difference between the actual value and the arms length value will be taxed as an unauthorised payment. Scheme trustees should ensure that when a connected party transaction takes place that they obtain an independent valuation and ensure that the market value is paid.
Taxable Property rules
Investing in assets classed as ‘taxable property’ will have tax consequences for the scheme, the scheme administrator and the pension scheme member. As a direct result of these tax consequences most pension schemes to do not allow clients to invest directly in taxable property.
So how can it be done?
In specie transfers
Let’s assume that a person has started a new self invested personal pension and he or she wants to transfer everything from their old pension arrangement to their new one. The checks have already been done and the new pension arrangement has confirmed that it will accept the transfer of assets.
The person must first formally ask the new pension arrangement to request an in specie transfer of assets from the old pension arrangement. This is normally done by the signing of an application form that also gives the trustees of the new pension arrangement permission to approach the trustees of the old pension arrangement to request the transfer. The trustees of the old pension scheme must then arrange for the assets to be re-registered in the name of the new trustees (or the custodian on behalf of the new trustees). This process can take several months.
The trustees of the pension scheme will normally be the legal owner of any commercial property held within the scheme – the property ‘title’ is held by the trustees. In a similar way to shares, the pension scheme member must make a formal transfer request (again, usually by application) that starts the process off. In the case of property, lawyers are involved and are required to change the ‘title’ of the property from one pension scheme trustee to another. Some pension schemes might want to carry out the normal conveyancing searches and checks – as they would if they were purchasing the property – to make sure it is a suitable investment for the pension scheme. This process can also take several months.
In some circumstances, funds can be transferred between schemes without first selling the units (or shares) and the process is similar to the re-registration process for shares – the legal ownership is re-registered in the name of the new pension trustee. This can usually only happen when the funds are readily tradeable and available through various distribution channels (e.g. transfer of funds from one fund supermarket to another).
Tax relief and costs involved?
Re-registering the assets in the name of the pension scheme would transfer the ownership of the assets.
This succeeds in getting the assets transferred into the pension scheme but does not count as a contribution and therefore there is no tax relief.
As the asset(s) are not being bought or sold, there are no dealing costs. However, the pension provider(s)/trustee(s) might charge for the work involved in changing the ownership of the asset and there could be two charges – on the way out of the existing scheme and on the way into the new one.
In specie contributions
Let’s now assume that a member of a pension scheme wants to contribute assets into his or her pension scheme. It doesn’t fall foul of the connected party or other investment restrictions and the assets are acceptable to the pension scheme.
Shares acquired under savings-related share option schemes (SAYE) or share incentive plans (SIP) are explicitly allowed by the Finance Act 2004 to be transferred to a pension scheme and these will automatically qualify for tax relief as contributions if they are rolled over into the pension scheme/arrangement within 90 days of the member becoming the owner.
Assets that are not eligible shares can also be contributed to a pension scheme as in-specie payments.
This is done by undertaking to pay a specified monetary contribution to a pension scheme. This must create a legal, irrevocable debt owed to the scheme. This debt is then settled by transferring assets worth the amount of debt.
Assets have to be valued at their ‘open-market value’ and the valuation submitted to the pension provider or trustees. This is the value of the asset at the date it was transferred to the pension scheme.
The processes for creating an irrevocable debt, calculation of tax relief, debt recovery and the documentation required are still being clarified. HMRC and AMPS (The Association of Member-Directed Pension Schemes) are working through the various issues.
Even when all of the issues are ironed out, the final decision on whether to accept assets as in specie contributions will lie with the product provider and/or pension scheme trustee.
If the trustees and/or product provider do decide to accept in specie contributions, the process could be used to accept personally owned shares, fund holdings and property in the place of the promised monetary contribution. Other assets might be considered by the pension scheme on request.
Tax relief and costs involved?
Because the transfer is in effect a contribution, it’s entitled to tax relief in the normal way. So if the contributions would normally get tax relief at source, basic rate tax relief on the value contributed would be paid by HMRC into the plan with any higher rate relief being claimed through self-assessment. Some pension schemes might choose to pre-fund this tax relief and some will continue to apply it to the pension arrangement once it arrives from HMRC.
The person transferring the ownership of the asset will be liable for any capital gains tax on any gain in the asset since he acquired it. He may also be liable for stamp duty – the jury is still out on that!
The process is a relatively complex one so any pension providers and/or scheme trustees that decide to allow contributions to be made in this way are likely to make a specific ‘in specie contribution’ charge.
Well, yes unfortunately.
There’s no problem with eligible shares as these are just transferred over and the value of them at date of transfer treated as the amount of the contribution.
However with other assets, the market value of the asset has to exactly match the contribution promised.
So if, say, the member creates a debt to the scheme of £10,000 and the asset’s value turns out to be £9,000, the scheme administrator has to pursue the member for the extra £1,000.
If, in the above example the asset turned out to be worth £11,000, the scheme would have to return the £1,000 or the member could choose to treat the extra £1,000 as a further contribution.
If a return to the member was being made, this could be done either as a cash payment or (in the case of, for example, shares) by a reverse in-specie contribution.
If the assets being transferred are shares, it is very likely that, because of the volatile nature of share values, there will be a discrepancy between the value of the promised contribution and the value of the assets transferred.
If the asset being transferred is commercial property, there’s much less likely to be a difference to be resolved because of valuation fluctuations. There is however the potential nightmare scenario of a contribution of, say, £250,000 being promised and the property turning out to be unacceptable to the pension scheme. The scheme administrator would then have to pursue the member for a contribution of £250,000!
It’s not permissible for the scheme to guarantee acceptance of the asset in advance. However, it is acceptable for the scheme to give the member an informal confirmation of suitability, which stops short of being a legal commitment to accept.
Any other ways of doing it?
Yes, there are but inevitably each has different advantages and disadvantages.
Sell the assets first
The simplest way of someone making a contribution to a pension scheme equal to the value of assets held would be to sell those assets and pay the proceeds into the pension plan.
This avoids the potential problems with an in specie contribution and allows someone who doesn’t initially have the cash, to make a substantial contribution to their pension scheme.
Tax relief will be given on the contribution as normal (assuming the gross contribution doesn’t exceed their UK earnings). CGT and stamp duty may be payable on the sale of the assets.
The disadvantages are that the assets don’t end up in the pension scheme, unless the pension scheme subsequently buys the assets. This could involve delay and values may have moved in the meantime. If the asset was a property of course, it may not be available for sale.
Pay cash contribution first
The member could pay a high enough amount into the pension scheme so that, with the addition of tax relief, the scheme has enough to buy the assets.
This has the advantage of simplicity but is only practicable if the member has enough cash to pay the contribution in the first place and the pension scheme trustee is willing to buy the asset.
It’s very important that a proper process is followed if a successful in-specie contribution is to be made. Therefore we would recommend that you contact a specialist firm like ours.
This information is based on our current understanding of legislation.
Originally published in 2007