SIPPs the suitability issues

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SIPPs - the suitability issues

• Chair Simon WattsHead of Corporate Pensions
  Development, Scottish Widows
• Adrian WaddinghamSenior Partner, Barnett
  Waddingham LLP

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What is a SIPP?

• Even the FSA do not have a definition!
• HMRC say investment-regulated non-occupational
  pension scheme
• FSA regulated since 6th April 2007
• Personal pension that allows
• wider investment freedom
• And there are lots of them
• 300,000 worth over 32 billion
• (Money Management September 2008)

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SIPPs and yet more SIPPs

• SIPPs have high profile in the press..
• but for many, other products may be more
  suitable(stakeholder, or plain vanilla SIPPs)
• Over the last ten years insurers have made their
  PP products more flexible, and there is wide
  access to trading platforms. Partially insured
  SIPPs allow drawdown, and some allow property
  investment.
• The full SIPP is essentially open
  architecture allowing investment in anything
  permitted by HMRC. Full SIPPs are usually
  trust-based (but not always) and run by
  specialist providers rather than insurers.

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Online SIPP

• Promoted as free SIPPs
• Administration covered by fees earned on the
  underlying investments
• Member can select investments direct, online
• Do not permit property investment
• Might not offer drawdown particularly after age
  75

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Family SIPP

• A stand alone SIPP covering a small number of
  family members
• So no connection with other unconnected
  individuals with the same SIPP provider
• Should be more expensive separate HMRC
  reporting requirements. Could be more expensive
  than a SSAS
• Family SIPPs allow pooling of assets and also
  Scheme Pensions

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First step

• Is a SIPP really needed?
• Which sort of SIPP fits best?
• Which provider should be recommended?

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How to choose a SIPP

• Investment flexibilitywide range of options
• AdministrationPoor administration is a headache
  and can cost money. Only full SIPPs would have
  named administrators.
• Costsflat fees/time costs/percentage of funds
• Cash ratesRates can be as high as base rate
  and lower rates used to help meet admin costs.
  FSA are looking at these lower rates
• Ease of use
• Retirement optionseg annuity purchase/drawdown/Sc
  heme Pensionin specie benefit payments

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SIPP comparisons
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Taxable Property
From 6 April 2006 new tax charges apply to
certain assets held by a scheme where a member is
able to influence the investments that the scheme
makes

• Taxable property consists of residential
  property and most tangible moveable assets

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Residential Property

• NOT classed as Residential
• Hotel
• Pub
• Childrens home
• Hall of residence for students
• Care home
• Hospital
• Prison

• Classed as Residential
• Any building suitable for use as a dwelling
• Any related land that is a garden for a dwelling
• Any land in the grounds of a residential property
  intended for use with the building
• Timeshares
• Beach huts
• Ground rents

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The tax will hurt!
Tax charges if a scheme holds taxable
property 1. Unauthorised payment charge (UPC) on
the member of 40 on the value of the
asset 2. Scheme sanction charge on the
Administrator of 15 of the value (assuming
member has paid UPC otherwise 40) 3. Unauthorised
payments surcharge on the member of 15 if
payments reach 25 of members benefits
The total tax charge can be 70 of value of the
asset
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..and hurt!
Further tax charges can apply 1. Income from
taxable property is subject to the scheme
sanction charge at 40 on the Administrator 2. Cap
ital gains from disposal of taxable property is
subject to the scheme sanction charge at 40 on
the Administrator 3. Registration of the scheme
could be withdrawn by HMRC resulting in a
de-registration charge of 40 of the market value
of the assets on the Administrator if the
payment gt 25 of the total assets
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Protected Rights

• Arise from contracting out. Government was
  loathe to let part of state pension to be put at
  risk
• Change in rules from 1 October 2008. PRs can be
  consolidated into SIPPs without investment
  restrictions some SIPPs will not let PRs be used
  for property
• Opportunity for consolidationPRs could be worth
  more than 75 billion
• Wait until 2012 for simplificationmust provide
  spouses pension on death
• Ongoing NI rebates an issueprobably only the
  insurers will allow this
• FSA concernsPRs add to their concerns about
  inappropriate transfers to SIPPs

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Retirement from SIPPs

• Maximum flexibility on retirement options
• Drawdown/phased retirement optimises retirement
  planning
• Flexibility to trigger benefits to best suit the
  Lifetime Allowance
• Full SIPPs will usually offer all options
• Insured SIPPs may restrict to drawdown only
• Online SIPPs may have to be moved/converted prior
  to retirement for drawdown

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Risks of income drawdown

• Investment control
• Investment growth
• Income/tax planning
• Flexible death benefits
• Leftover fund stays with the family (albeit after
  heavy tax)
• Better annuity rates later?

• Investment risk
• Annuity rates could worsen
• No cross-subsidy
• Ongoing costs
• No certainty of income

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Income drawdown to age 75

• Maximum pension set by Government Actuarys
  tablesproxy for 120 of market rates
• No minimum
• Every year the pension can be different
• Review at least every 5 years and when lump
  sums/annuities taken
• Annual reviews available (on the anniversary at
  members request)

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Income drawdown from age 75

• Alternatively Secured Pension starts
• Annual reviews after age 75
• Reduced maximum of 90 of a 75-year olds pension
• Minimum drawdown of 55

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ASP Compared to annuity
Male, 500,000 purchase money, level pension, no
guarantee, no widows (source Barnett Waddingham
LLP GAD tables)
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Scheme Pension

• Available from any age not just from 75
• (in practice mostly from 75 onwards in SSAS)
• PCLS available on un-crystallised funds before 75
• Once elected for, cannot switch back to ASP (but
  can secure income via an annuity)
• Pension set by Trustees no rules!
• Pension effectively fixed
• potential tax liability if pension increases by
  more than price inflation for under 75s
• tax liability if pension reduces by more than 20
• If one pensioners Scheme Pension reduces, all
  must reduce proportionally
• So not suitable for many SIPPs

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ASP v Scheme Pension
Male, Age 75, 500,000 purchase money, level
pension, no guarantee, no widows (source
Barnett Waddingham LLP GAD)
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Phased retirement

• Can draw retirement benefits in stages
• Stagger tax-free cash payments
• Income planning opportunities
• Better IHT protection

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Death under an annuity

• Death benefits decided when annuity first
  purchased
• Is there a guarantee?
• Up to 10 Years
• Paid to survivor/estate/beneficiaries
• Lump sum or continued pension
• 50? 2/3? 100?
• Age at death irrelevant
• Conventionally, no lump sums
• Talk of capital protected annuities anyone seen
  one?
• A portion of capital returned on death
• On the death of the survivor, nothing.
• There is no tax bill
• but cold comfort capital is lost to the
  insurer

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Death in USP - i.e. pre 75

• Continue drawdown pension to surviving dependant
• Continue USP if dependant under 75
• Start Alternatively Secured Pension or Scheme
  Pension after 75
• Buy annuity for surviving dependant
• Pay lump sum to beneficiaries
• 35 tax but no IHT

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Death in ASP - ie after 75

• MUST first use remaining funds for any surviving
  spouse
• ASP/USP for the dependant
• Or buy insured annuity
• Or Scheme Pension
• On death of the survivor or if no spouse,
• Pay to nominated charity tax-free
• Reallocate amongst other members of the Scheme
  taxable
• Refund to company taxable

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ASP Death after 75

• Payment to Charity
• Member or trustees may nominate a charity
• Finance Act 2007 allowed trustees to nominate if
  member has not done so
• No tax paid on the payment
• From a tax perspective an attractive option .
• . but in truth not where people want their
  money to go?

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ASP Death after 75

• Reallocation to Other Members
• Originally not going to be a problem andwas the
  most popular form of post 75 death benefit
• But legislation has been amended
• First to subject reallocations to IHT
• Now also an Unauthorised Payment
• Total tax bill at least 70 and could be 89.2
• Reallocation subject to Inheritance Tax on the
  original members estate not the survivor
• May be the least worst option 10.8 is better
  than 0 of annuity

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ASP Death after 75
Worst case

• Reallocation on ASP Death
• Unauthorised payment charge 40 of payment
• Scheme Sanction Charge 15 of payment
• Unauthorised payment surcharge 15 of payment
  if more than 25 of members assets refunded
• Inheritance Tax 40

• Reallocate 100,000
• Less unauthorised payment charge, surcharge
  sanction charge 70 leaves 30,000
• Less IHT 40 leaves 18,000
• Total tax 82,000

May be worse for SSAS De-Registration Charge
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Example annuity v ASP

• Male aged 75 buys 100,000 annuity with 10 year
  guarantee
• On death after one year, guarantee pays 9 x
  9,000pa 81,000 gross(recipient taxed on
  income receives 63,180 at basic rate or
  48,600 at higher rate)
• On death after 7 years, recipient gets 21,060 if
  basic rate payer or 16,200 if higher rate payer
• So annuity can sometimes provide better death
  benefits than ASP. Will depend on ASP investment
  return, rate of tax on ASP funds, date of death,
  and more!

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What can go wrong?

• Failure to do full fact find
• Omission of proper transfer analysis
• Mis-reading clients attitude to risk
• Lack of reason why
• Failure to cover alternatives
• Drawing unsustainable income?
• (But what about the death tax?)

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A suitable drawdown candidate

• Pension savings above 400,000
• Personal assets of at least an equivalent amount
• Poor health?
• Partner informed and supportive
• Not needing maximum income or not compromised
  by erosion of funds (think death tax!)
• Experienced investor
• Fully understands the advantages/certainty that
  an annuity would bring

Always offer the risk-free annuity option!
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Shore v Sedgwick

• Transfer from DB to SIPP in early 1997
• Before the perfect storm
• Lower interest rates
• Stock market crash
• Increasing longevity
• The tax hike
• Transfer to drawdown was competent (albeit with
  compliance failings), but..
• ..wrong not to advise on the annuity option at
  the time drawdown started

Shore v Sedgwick Financial Services Ltd and
others 2008 EWCA Civ 863
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When does a (drawdown) loss arise?

• SIPP transfer in 1997
• Proceedings issued September 2005
• Decision of negligence no advice to consider an
  annuity
• But when was the loss suffered? When annuity
  rates fell not when thetransfer was made
• Still more than 6 years before 2005 so claimant
  lost

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Protection

• Lifetime Allowance - 1.65M with effect 6 April
  2008
• Can apply for Protection from the Lifetime
  Allowance Charge based on the value of your
  entitlements as at 5 April 2006
• Enhanced and Primary(enhanced means total
  freedom from the LAprimary means your own
  personal LA)
• Deadline of 5 April 2009 to register with HMRC

members with Enhanced Protection will lose it if
any contribution is made on a members behalf!
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Important Information

• The information in this presentation is based on
  our understanding of current taxation law,
  proposed legislation and HM Revenue Customs
  practice, which may be subject to future
  variation.
• This presentation does not constitute advice.
• Benefits are not guaranteed and the value of
  investments may go down as well as up.
• BW SIPP LLP is authorised and regulated by the
  Financial Services Authority.
• Registered Office
• Barnett Waddingham LLP
• Cheapside House, 138 Cheapside, London, EC2V 6BW

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