Normally, a pension plan works by members paying contributions to a pension provider, and that provider (usually an insurance or dedicated pension company) invests the money in various forms of investment to provide growth in the fund from which the pension is paid. SSIPs and SSASs provide a way in which the contributor can take some control over the way in which the fund is invested.

These types of schemes provide a useful means of investing a pension fund in a form which could benefit a small business, mainly by the increased range of investments available – often in property of some sort which can be used by the contributor’s business.

SIPPs

Normal Personal Pension Plans consist of funds that are invested by the pension provider. These investments include things like equities, bonds, and deposit accounts. The contributor has only limited control over what the fund is invested in.

SIPPs were introduced to allow contributors to Personal Pension Plans to have more control over their own fund’s investment. A SIPP is set up under a trust deed. A trustee controls the investment of the fund, under instruction from the contributor. The contributor may be the trustee, but if so, an administrator must be appointed to carry out the investment transactions.

Permitted investments are:

• Stocks and shares traded on recognised Stock Exchanges. This therefore includes equities, bonds and other loan stocks, fixed interest stocks, including preference shares, debentures, warrants, permanent interest bearing shares, and convertible securities.
• Futures and Options relating to securities traded on recognised Stock Exchanges, and relating to currency.
• Shares from:
• Unit Trusts and Investment Trusts.
• Unit linked funds provided by U.K. Life Assurance companies.
• Traded Endowment Policies.
• Deposit Accounts.
• Commercial Property – leasehold or freehold. Borrowing in order to finance the purchase or development of Commercial Property. (But there are restrictions on the borrowing allowed.)
• Ground Rent.
• Individual Pension Accounts (IPAs).

Prohibited Investments are:

• Loans.
• Borrowing for any asset other than commercial property.
• Property may not be purchased from a connected person (i.e. spouse or close relative of the policy holder).
• Property cannot be purchased after the later of:
• Residential property.
• Leisure property.
• Land bordering land owned by the contributor.
• Personal chattels, such as paintings, jewellery, antiques, etc.
• Premium Bonds.
• Gold Bullion.
• OFEX shares.
• Shares not listed on a recognised Stock Exchange.

Investing in property

Because the fund can be invested in commercial property, a SIPP is extremely useful for a small business. The proprietor or partner can take out a SIPP, make contributions, and the fund may then invest that money, (borrowing more if necessary) to buy property for the business. The property is then owned by the SIPP and rented out to the business by the pension fund.

This is particularly useful for an expanding business which needs bigger premises. Note, however, that the property must be commercial property, not residential or leisure property, and that it may not be purchased from a connected person. However, commercial property for these purposes does include development property and agricultural property. The rental income, although not taxable in the hands of the SIPP, must be enough to cover interest paid on any borrowings, and any expenses.

Tax benefits

A SIPP represents a particularly tax efficient way of providing a retirement fund from an unincorporated business (i.e. one which is not a limited company). The tax advantages are particularly shown when the fund purchases property for the business.

• The contributor gets tax relief at their highest marginal tax rate on the contributions to the plan.
• The rent paid by the business is a valid deduction from profits for tax purposes.
• The rent received by the fund is not liable to tax.

Borrowing

The fund may borrow money to invest in commercial property if it does not have sufficient funds available. There are, however, restrictions on the amount of money the fund may borrow to invest in commercial property.

The present restriction is that the fund may not borrow more than 75% of the value of the property to be bought.

The present restriction is in place until 5th April 2006. After that date, the new restriction will be 50% of the existing pension fund. This means in effect that the pension fund must be at least two-thirds of the value of the property.

Action Pointer

If your S1PP has a property purchase decision to make in the near future, the message is clear – do it before 5 April 2006.

SSASs

The official definition of an SSAS is -

This means that it is ideal for small private limited companies controlled by members of the same family.

A further definition is given by the Inland Revenue as follows:

Small Self Administered Schemes are Occupational Pension Schemes. They must be approved by the Inland Revenue in the same way as any other Occupational Scheme, and benefit from the same tax advantages. Thus, they are subject to the normal limitations on benefits related to earnings at retirement date and number of years’ service. For example, the tax free lump sum may be one and a half times the final remuneration in a final salary scheme.

However, they are normally Money Purchase Schemes rather than Final Salary Schemes. It is most suitable for directors because:

• the number of members is limited to 11, and
• the investment risks are higher than other schemes, and
• at least one member must be connected to other members.

In practice, the majority of SSASs have only two or three members.

There may only be one SSAS per company, but a single SSAS may be available for several associated companies.

These schemes are more flexible than ordinary Occupational Pension Schemes, and are very attractive for directors and senior executives. The additional flexibility comes in the form of greater investment opportunities and tax advantages.

Trustees

An SSAS must be set up under an irrevocable trust. There must therefore be trust rules and a trust deed. The number of members must be fewer than 12, and the members are, generally speaking, the trustees of the scheme. If those trustees cannot carry out the day-to-day administration of the scheme, they may appoint an administrator.

A bank account should be set up in the name of the trustees, so that the scheme’s assets are shown to be separate from the company’s assets.

Pensioneer trustees

One of the trustees must be a ‘Pensioneer Trustee’ (PT) who is approved by the Inland Revenue. This may be an individual or a company. The PT acts as a ‘watchdog’ for the Inland Revenue. The Association of Pensioneer Trustees is the official body recognising PTs, and maintains the highest professional standards.

This trustee:

• may not be a member of the scheme,
• must be a signatory of the bank account, and co-owner of the scheme’s assets,
• must ensure that the scheme is properly administered,
• must be widely involved with SSASs, and
• must provide an undertaking to the Inland Revenue not to:

The PT may not be removed by the other trustees unless there is an immediate replacement, apart from:

• the death of the PT,
• a court order removing the PT,
• disqualification by the OPRA,
• removal of the approval of the Inland Revenue,
• a fraudulent breach of the scheme rules by the PT.

Investment

What makes an SSAS so attractive is the wide power of investment of the scheme funds by the trustees. The investment powers include:

• Commercial property. Property may not be purchased from a scheme member. However, the scheme funds may be used to purchase commercial property to be occupied by the company which is the employer of the scheme members. The scheme could also purchase property from the employer company, to provide a cash injection into the business. A fair market rent must be paid by the company to the scheme for the use of the property.
• Residential property is normally prohibited. However, if it is occupied by an employee as a condition of the employment (such as a caretaker), or by a person in connection with occupation of business premises (such as a flat above a shop), then it may be permitted. (However, this residential property cannot be for the benefit of a member of the scheme or the member’s >family.)
• Personal chattels (but the Inland Revenue prohibits the direct investment of a scheme’s funds in:
• Shares in unlisted companies (although the investment of the funds may not exceed 30% of the voting power of any company).
• Deposit accounts.
• Copyrights.
• Financial futures.
• Commodity futures.
• Traded options.
• Loans may be made from the SSAS funds. The lending powers of the funds are as follows:
• Loans or investments in a participating employer’s business must not exceed 5% of the scheme’s assets, unless there is a scheme rule permitting it, and all the members of the scheme agree to it.

It can be seen, therefore, that there is great scope for investment of the pension funds of an SSAS in the business of the employer. This can be by lending money to or investing money in the employer company, or by buying property for the company to occupy.

For small companies, owned and run by the directors, this represents a great opportunity to use these funds in an extremely tax effective way in the business.

• Tax relief is given to members on their contributions to the scheme.
• Tax relief is given to the employer company on their contributions to the scheme (but see restrictions below).
• If any amounts are loaned to the employer’s business, that company gets full tax relief on interest paid.
• If the scheme buys property for the company’s occupation, that company gets full tax relief on rent paid. The scheme funds are exempt from tax on rental income.
• The scheme funds are exempt from tax on any income except dividend income (therefore investing in ordinary shares of the company does have its limitations).
• The scheme funds are also exempt from Capital Gains Tax on the sale of any assets, including property, owned by the scheme’s funds.

Restrictions on tax relief

In general, contributions to the scheme by the employer company are allowable against tax. However, in cases of larger amounts paid in any one accounting year, the tax relief is restricted.

Firstly, there is a general restriction that contributions to the scheme must be justified by the scheme actuary, and within the maximum funding rules.

There is a special restriction if contributions in any one accounting period are £500,000 or more. In these cases, the Corporation Tax relief is spread over a number of years according to the following table:

Amount of contribution	Spread period
Below £500,000	1 year
Above £500,000 and below £1,000,000	2 years
Above £1,000,000 and below £2,000,000	3 years
Above £2,000,000	4 years

Borrowing

Another advantage of SSASs is that the trustees may borrow money. This can be used:

• to buy a new asset for the scheme (for commercial purposes), or
• to pay out an annuity without having to sell one of the scheme’s assets.

The second option could be particularly useful if an investment held by the scheme is at a low valuation, and the timing is not right to sell it.

There are maximum limits to what trustees can borrow. This limit is:

• Three times the employer’s and employees’ ordinary annual contributions, plus
• 45% of the market value of the scheme’s net assets (excluding assets earmarked for a member who has retired or died).

Borrowings must be reported to the Inland Revenue, unless:

• the term is less than 6 months, and
• the amount borrowed is the lower of £50,000 or 10% of the market value of the scheme’s assets.

Actuarial valuation

Even though most SSASs are Money Purchase Schemes, all SSASs must have a triennial valuation carried out by a qualified actuary. This is to ensure that the scheme’s assets can meet the liabilities. There is also an issue about over-funding of a scheme. This is because an employer company could put excess money into the scheme, simply in order to avoid or reduce its Corporation Tax liability.

The valuation must be submitted to the Inland Revenue within 12 months of the valuation date.

There must also be an actuarial valuation report submitted with the original approval to the Inland Revenue. This report must detail the members’ incomes, ages, and retirement ages. It must also show the maximum funding limits, initial contribution rates, and how the assets are to be invested.

Funding basis

Because of the over-funding problem mentioned above, Inland Revenue rules have been in force since 1996 to govern the way in which employer companies make contributions for members of SSAS schemes.

The employer company may choose to make contributions in one of two ways:

• 1.a percentage of the current remuneration of the member, or
• 2.a fixed amount determined by the actuarial valuation.

The method may be chosen individually for each member of the SSAS, so that different members may be on different methods. The method, once chosen, must remain for three years. At the end of the three year period, a new method may be chosen for the next three years.

If the method is of a percentage of the current salary of the member, the following table shows the maximum contributions which may be made:

Age next birthday	Normal retirement age 60	Normal retirement age 65
25	28%	20%
30	35%	25%
35	42%	31%
40	57%	37%
45	86%	51%
50	118%	77%
55	301 %	105%
60	n/a	268%

If a fund is over-funded, the Inland Revenue requires action to be taken. This could take the form of:

• suspending all contributions until the fund is in balance, or
• increasing remuneration to members, or
• increasing or adding to benefits to members, or
• adding new members to the SSAS, or
• making a refund to the employer company, which is subject to a 35% tax charge.

Relevant and Non-relevant benefits

This is a key concept for SSASs. The scheme must exist for the purpose of providing relevant benefits for its members –that is to say, the provision of a pension, the associated tax free lump sum, and death benefits.

Any other benefits are described as non-relevant benefits, and these are prohibited. Thus, no investments of the scheme’s funds may provide non-relevant benefits to a member (e.g. the occupation of a residential property by a member or a member’s family). A similar consideration applies to the application or result of the borrowing powers of the scheme’s funds.

In general, an SSAS may provide relevant benefits in more flexible ways than an occupational scheme. This is because the funds are often invested in assets which are not readily realisable (such as property rented to the employer’s business). It is common for an SSAS to allow drawdown benefits. As with other drawdown schemes, an annuity must be provided by age 75 at the latest. The trustees must ensure that the market is regularly scanned to determine the best time for annuity purchase.

When a drawdown is being operated, part of the actuary’s triennial review must include:

• a check that the drawdown income paid to the beneficiary is within 10% of the market rate for annuities, and
• that the level of drawdown can be maintained by the SSAS assets.

Comparison of SIPPs and SSASs

The table overleaf shows the main differences between STPPs and SSASs.

	SIPP	SSAS
Structure	Personal Pension Plan	Occupational Pension Scheme
Membership	Individual. However, more plans can be added (e.g. to purchase a property jointly)	Must have fewer than 12 members. Usually one to three controlling directors
Property investment	Must be commercial property Can be agricultural or development land Must not be bought from a connected person	Commercial property Can be residential property connected to commerciall property May be bought from a connected person
Borrowing powers	Up to 5th April 2006 – up to 75% of value of property From 6th April 2006 – up to 50% of value of fund	Up to 45% of value of fund’s assets, plus Three times the annual contributions of employer and employee
Trustees	The contributor may be a trustee	There must be a ‘Pensioneer Trustee’