With some hard work and careful planning, schemes could recoup sizeable rebates as a result of pension tax changes.
Fresh guidance from HM Revenue & Customs on VAT charges for scheme management services may have passed people by during the Christmas slowdown.
VAT on services provided to pension schemes across the spheres of administration, investment, legal provision and consultancy are now recoverable, providing employers are both a party to the services contract and have paid for them.
Comment: How the judgments affect your scheme
On November 25 HM Revenue & Customs published its eagerly awaited briefs on VAT and pension schemes, following the recent PPG (brief 43) and ATP (brief 54) cases at the Court of Justice of the European Union.
HMRC has changed its policy on VAT recovery, making the position more favourable for defined contribution schemes, but less so for defined benefit.
Historically, HMRC allowed sponsoring employers to recover VAT on administration services but not on investment services.
Where services combined both, HMRC allowed a split of 70/30, with 30 per cent attributable to administration, on which the employer could recover VAT.
Following the PPG judgment, HMRC accepts there are no grounds to differentiate between admin and investment services, meaning the employer may potentially recover VAT on both.
However, in order for the employer to recover VAT, the employer must be the recipient of the services and, in particular, contract for and pay for them.
This is problematic for occupational pension schemes because typically services are provided to the trustees, and meeting this new requirement may not be compliant with the trustees’ duties.
If employers of DB schemes are not able to change their legal arrangements, or make the trustee part of their VAT group, their VAT recovery is likely to be worse than before.
HMRC has announced a transitional period to December 31 2015, but it is not clear from its brief whether this only applies to the 70/30 split or also to pure administration services.
It has followed the decision in ATP, advising that pension funds that have the following characteristics are “special investment funds”, the “management” of which is exempt from VAT:
• They are solely funded by the members;
• The member bears the investment risk;
• The fund pools the contributions of several members; and
• The risk is spread over a range of securities.
Most DC schemes should be eligible for the exemption, meaning VAT should not be charged on future management services and trustees may reclaim VAT they have overpaid over the past four years. The exemption will apply to investment management services, but it is not clear from HMRC’s brief to what extent administration services should also be VAT-exempt.
Katharine Howe is an associate at law firm Hogan Lovells
The news of a potential 20 per cent reduction in costs and a fairly generous four-year adjustment window from the taxman provides schemes with a welcome windfall in tough times.
Both defined benefit and defined contribution schemes may be in a position to recoup substantial VAT payments on past service provision, lawyers believe.
Successful recovery will be dependent, however, on employers seeking advice and taking the necessary steps to limit their tax hit across contracts and invoices.
“Schemes should be looking carefully at the way in which they organise the provision of services from third-party providers and how to organise their affairs to best maximise recovery,” says Lesley Harrold, senior knowledge lawyer at law firm Norton Rose Fulbright.
Industry experts see significant value in schemes putting in the legwork to both reclaim past payments and rewrite contracts to maximise recovery benefits in the future.
The value of recoverable VAT payments is dependent, of course, on the size of the scheme, but experts estimate that for some employers the rebate could amount to a five or six-figure sum.
“If I was a finance director of one of the employers concerned I would be focusing some time on this,” says Ian Neale, director of legislation specialist Aries Pension & Insurance Systems.
Maximising recovery
To take advantage of HMRC’s new position, schemes need to review their agreements with service providers and ensure they are party to those contracts.
Harrold encourages schemes to review contracts earlier rather than later to avoid unforeseen problems.
“Services need to be set up to benefit the employer. Extension of the transitional period to year end 2015 is generous, but these things take time to examine; there could be unforeseen circumstances,” she says.
There is not however, a one-size-fits-all approach to maximising recovery. “Each particular set of facts and circumstances would need to be assessed on their own merit,” says Chris Bates, partner at Norton Rose Fulbright.
“Maximal recovery could be achieved when external services are provided to trustees, who themselves are registered for VAT and who are charging the employer VAT on the provision of services,” he adds.
Pension funds and trustees are not usually considered taxable individuals, but if they provide services to employers VAT can be recovered on any charges made.
Legal clarification
Employers will need to clarify their legal standing where trustees are bound by statute to pay for services. Fund manager selection and charges are the direct responsibility of trustees, making it difficult for employers to recover VAT on payments.
An area of debate following the briefing in November – how practice employers can reclaim VAT on management fees that trustees are required by statute to pay – is a persistant concern.
Chantal Thompson, partner at law firm Baker & McKenzie, sees a potential solution through the addition of a side note to contracts.
“To meet the requirements of brief 43 you could have a side letter with reference to fees being relevant to employers’ business and own costs. The employer pays the fees even though the direct client is the trustee,” she says.
Sweat the small stuff
Pensions lawyers expect there will be significant demand on schemes to provide exhaustive detail on the costs and payments made on services both retrospectively and moving forward.
It seems unlikely that HMRC will hand over 20 per cent of bills without a fight. “I imagine they’ll want all the t’s crossed and i’s dotted… HMRC will press funds making a claim to provide very detailed information before they agree to process [them],” says Bates.
Thompson says schemes and advisers may be a little reluctant to entirely commit to a response when further guidance and clarity from HMRC is pending.
“It would be really helpful to know what HMRC expects from a scheme. We haven’t reached the end of the story on this one yet,” Thompson adds.
