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Pensions Tax Manual

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Contributions: tax relief for employers: asset backed contributions: treatment of existing arrangements at 29 November 2011 and 22 February 2012

Glossary   PTM000001
   

Effect of Schedule 13 Finance Act 2012 on existing asset-backed arrangements at 29 November 2011 and 22 February 2012
Transactions prior to 29 November 2011
Transactions prior to 22 February 2012
Transitional provisions

Effect of Schedule 13 Finance Act 2012 on existing asset-backed arrangements at 29 November 2011 and 22 February 2012

Part 2 and Part 4 Schedule 13 Finance Act 2012

The legislation requires that any pre-existing asset-backed arrangements be reviewed at the dates that the legislation was introduced (i.e. 29 November 2011 and 22 February 2012). The purpose of the review is to determine whether the transitional provisions of Parts 2 and 4 of Schedule 13 Finance Act 2012 have an impact on the tax treatment of the arrangement.

Note that the legislation does not affect the tax treatment of any payments due under the asset-backed arrangement prior to the introduction of the legislation.

Transactions prior to 29 November 2011

Part 2 Schedule 13 Finance Act 2012

The timing of a transaction is determined by the date that the employer contribution is effectively paid. Where a pension contribution has been effected via an asset-backed arrangement prior to 29 November 2011 (and the arrangement is still in place at that date), it will need to be reviewed to determine if it falls within the transitional provisions of Part 2 Schedule 13 Finance Act 2012.

The aim of the legislation is to identify transactions which, if they had taken place on 29 November 2011, would not have resulted in upfront relief being available to the employer. These transactions will fall within the transitional provisions of Part 2.

Any transaction that would have resulted in upfront tax relief for the employer (because it is treated as a structured finance arrangement) is not immediately impacted. These transactions will not fall within the transitional provisions of Part 2, but will be subject to Sections 196G and 196H of Part 1 Schedule 13 Finance Act 2012 should an applicable event occur. This is covered in the guidance at PTM043320.

Transactions prior to 22 February 2012

Part 4 Schedule 13 Finance Act 2012

Where a pension contribution has been effected via an asset-backed arrangement prior to 22 February 2012 (and the arrangement is still in place at that date), it will need to be reviewed to determine if it falls within the transitional provisions of Part 4 Schedule 13 Finance Act 2012. The only exceptions to this are transactions that fall within the transitional provisions of Part 2 Schedule 13 Finance Act 2012 (i.e. transaction that took place prior to 29 November 2011).

The aim of the legislation is to identify transactions which, if they had taken place on 22 February 2012, would not have resulted in upfront relief being available to the employer. These transactions will fall within the transitional provisions of Part 4.

Any transaction that would have resulted in upfront relief for the employer (because it falls within the definition of an acceptable structured finance arrangement) is not immediately impacted. These transactions will not fall within the transitional provisions of Part 4, but will remain subject to the provisions of Part 1 Schedule 13 Finance Act 2012 should an applicable event occur. This is covered in the guidance at PTM043320.

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Transitional provisions

Part 2 and Part 4 Schedule 13 Finance Act 2012

There are very few asset-backed arrangements that will fall within the transitional provisions. For this reason, this guidance gives a broad overview of how the legislation operates.

The transitional provisions of Part 2 and Part 4 Schedule 13 Finance Act 2012 operate in a similar way; they simply apply to different transactions identified by date, as explained previously. The guidance given here is based on Part 2 Schedule 13 Finance Act 2012.

The transactions affected by the transitional provisions are those where the outcome of the arrangement for the pension scheme (in terms of payment flows) cannot be known until the final date. This could be due to the arrangement providing for a final bullet payment or due to a contingency in the payments provided by the design of the arrangement. Despite this doubt over the income flows to the pension scheme, the legislation previously allowed full tax relief to the employer as and when payments were made under the asset-backed structure. For example, a structure based on rental flows could see the employer claim relief in respect of the contribution to the pension scheme plus the annual rental flows into the structure. Under the new legislation, a pension contribution structured in this way will not result in upfront relief being available for the contribution, but relief will be available for the ongoing payments into the structure (subject to other applicable legislation). To achieve some parity of treatment between new and pre-existing contributions structured in this way, the transitional arrangements look at the tax treatment of the ongoing payments into the structure.

There are 2 key parts to the transitional arrangements:

  • a review of the tax treatment of the ongoing payments into the structure, and
  • when the arrangement comes to an end (‘completion day’), a review of the quantum of relief given to the employer over the entirety of the arrangement.

Tax treatment of ongoing payments into the structure

Step 1 is to identify what type of arrangement is being considered. The type of arrangement is classified by reference to the description of the structures given in Part 1 of the legislation as a Section 196B, Section 196C or Section 196D arrangement. These have been classified in this guidance as:

  • Section 196B - simple asset-backed contribution arrangement
  • Section 196C - complex asset backed contribution arrangement involving a new partnership
  • Section 196D - complex asset-backed contribution arrangement using an existing partnership.

This classification is necessary as Step 2 is phrased in terms of the parties to the transaction and the structure involved.

Step 2 is to identify the UK tax effect, if any, which has arisen from the asset-backed structure for either the ‘borrower’ or the ‘transferor’, or a person connected to either of these. This is referred to as the ‘relevant effect’. The relevant effect could be that:

  • an amount of income on which the person would have been charged is now not chargeable as a result of the structure
  • an amount which would have been brought into account in calculating any income of the person is not so brought into account, or
  • the person becomes entitled to deduct an amount in calculating their total income.

Example

An employer and a connected company are partners in a partnership, each with a 50% interest in the income of the partnership. As a result of the asset-backed structure, the pension scheme becomes a member of the partnership and is entitled to 99% of the partnership income. The relevant effect is that 99% of the income is now not being charged on the transferor (the employer) and a connected person.

Step 3 is to apply the transitional provisions to deny the ‘relevant effect’ for tax purposes. So, in the example given above in Step 2, the impact would be that the employer and the connected company would each still be liable to tax on the 49.5% share of the income that has been acquired by the pension scheme.

Completion day review

The aim of the legislation is to ensure that the quantum of deductions available to the employer over the lifespan of the arrangement is matched by the income flows to the pension scheme. If the transitional provisions switched off a relevant effect in an arrangement where the final bullet payment was due in full then the employer would not have received relief for the value of payments made to the pension scheme.

Example

An asset-backed structure is put in place to address a pension scheme deficit of £400m. This is the amount of the contribution paid to the scheme under the arrangement.

There is a yearly payment of £22.5m paid into the structure by the employer group. This is payable for 20 years. The structure provides for a final bullet payment to be made at the end of the arrangement subject to the pension scheme deficit at that date. Prior to 29 November 2011, two yearly payments have been made. Assume that the arrangement runs through to the anticipated end date at 20 years, and a final bullet sum of £100m is due.

The employer in this case would be able to claim deductions for the original contribution paid of £400m plus the two payments arising prior to the new legislation coming into effect (i.e. a total of £450m). The payment of £100m at the end of the arrangement is unlikely to qualify as a tax relievable deduction as it is more akin to a capital payment. The pension scheme will have received payments of £550m, comprised of 20 payments of £22.5m plus £100m at the end. So, without any further provisions, the employer would not have received relief based upon the total payments made to the pension scheme. The completion day review addresses this.

‘Completion day’ is defined as the earliest of the following dates:

  • the day on which the asset-backed arrangement is to be completed as determined at 29 November 2011. This is the date when the lender (or connected person) will no longer be entitled to payments in respect of the security. In a partnership arrangement, it is when the profit share of the person involved in the relevant change is no longer determined by reference to payments in respect of the security
  • the day on which the asset-backed arrangement is actually completed. It is possible in some structures for the person involved in the relevant change not to be the pension scheme. For example, in a two tier partnership the relevant change may occur in the partnership in which the pension scheme is not directly involved. If the pension scheme ceases to be entitled to payments under the arrangement then the arrangement is to be treated as completed
  • the day on which a completion event occurs (see below)
  • the day immediately before the occurrence of a ‘paragraph 8’ event (see below).

The ‘completion event’ test was introduced with effect from 22 February 2012. To determine if an event has occurred, you first need to know what payments were expected to be made to the pension scheme between 22 February 2012 and the end of the arrangement. This is in terms of the number of payments, the amounts of those payments and the dates of those payments. A completion event occurs if there is a change in the number of payments, or a significant change in the amount or timing of those payments.

A ‘paragraph 8’ event was introduced with effect from 21 March 2012 and includes:

  • if the employer was within the charge to corporation tax at the time the contribution was paid, the employer ceasing to be within that charge
  • if the employer is a company, the employer entering administration or the winding up of the employer commencing
  • if the employer is a limited liability partnership to which Section 863(1) Income Tax (Trading and Other Income) Act 2005 or Section 1273(1) Corporation Tax Act 2009 applies when the contribution is paid, that provision ceases to apply in relation to the employer
  • if the employer is a partnership (other than a limited liability partnership) when the contribution is paid, the partnership ceasing to carry on the trade, profession or business in question, or the partnership being dissolved
  • if the employer is an individual, the individual dying.

When a completion event occurs, a comparison is made between the total cash payments that have been made to the pension scheme under the arrangement and the sum on which the employer has been able to claim relief. This is achieved by looking at the relationship between three amounts - A, B and C - which are defined below.

Amount A = the total amount of relief given in respect of the original contribution paid.

Amount B = the total of the relevant effects that have been denied by the operation of the transitional provisions.

Amount C = any sum paid on the completion day that is not reflected in B, nor qualifies as an income deduction in its own right. It is the payment made to the pension scheme to effectively bring the pension scheme’s interest in the arrangement to an end. This might be to buy back the security or to reverse the relevant change in the partnership.

Amount C is to be treated as nil if there appear to be any arrangements to ensure that its value is effectively returned to the employer or a connected party.

If Amount A exceeds Amount B + Amount C, then the excess is to be treated as a profit from a loan relationship if the employer is a company. Otherwise it is treated as an amount chargeable to income tax under Chapter 8 Part 5 of ITTOIA 2005.

If Amount B + Amount C exceeds Amount A, then the excess is to be treated as a contribution paid by the employer on the completion day.

Example

Returning to the example given earlier in this section (under ‘completion day review’), the quantum of relief given to the employer needs to be reviewed on the date the arrangement is completed.

Amount A is £400m, the amount of the contribution paid under the arrangement.

Amount B is £405m. The relevant effect of this arrangement saw payments of £22.5m flowing through to the pension scheme each year. This relevant effect (whether the deduction available to the group or the profits that have been moved to the pension scheme) will be switched off for the remaining 18 years by the transitional provisions.

Amount C is £100m.

As Amount B + Amount C exceeds Amount A by £105m, this sum is to be treated as a contribution paid by the employer on the completion day.

The total amount on which the employer will claim tax relief in respect of this transaction is £550m. This is made up of the original contribution paid (£400m), plus the amount treated as a contribution paid at completion (£100m), plus the 2 years’ worth of deductions given prior to 29 November 2011 (£45m).

The pension scheme will have received cash flows of £550m. This is made up of 20 payments of £22.5m, plus the final payment of £100m.