Pension employer contributions

Introduction

This briefing sets out the points to consider for employers making contributions to pensions, including factors related to tax relief.
 

Core considerations

• Tax relief on employer contributions is given by HMRC allowing those contributions to be deducted as an expense before calculating profits that are taxable.
• Employer contributions must meet the wholly and exclusively test for the purposes of the employer’s trade, profession, or investment business.    
• Tax relief could come under closer scrutiny for employer contributions made when a company stops trading or for controlling directors and their close friends or relatives.
• Tax relief is usually given in the trading year in which the contribution is paid. There are rules for spreading tax relief for up to four years when a large, non-regular, contribution is paid.
• Employer contributions count towards an individual’s overall pension accrual in a tax year. It is therefore possible that a tax charge could arise for an individual because of an employer contribution being paid – the annual allowance tax charge.
   

Contents 

• Tax relief  
• Areas of scrutiny
• Spreading of tax relief
• Example of spreading tax relief
• Overseas employees and UK pension contributions
• In-specie contributions
   

Tax relief

Tax relief on employer contributions to a registered pension scheme is given by allowing contributions to be deducted as an expense when calculating the profits of a trade, profession, or investment business. This reduces the amount of an employer’s taxable profit. 
 
In the case of a trade or profession, employer contributions will be deductible as an expense if they are incurred wholly and exclusively for the purposes of the employer’s trade or profession. Where the employer is a company with investment business the employer contributions will be deductible as an expense of management. 

Contributions must be applied in the accounting period in which they are paid, they cannot be carried back or forward, except where special spreading rules apply.

Scheme wind up deficiencies: A scheme that is not a money purchase scheme may not have enough assets to cover its liabilities when it winds up. Employers may be liable to make good any deficiency which will be treated as contributions which are fully deductible, even if the employer has already ceased trading.

Statutory levies: such as the administration levy, initial levy, risk-based and scheme-based pension protection levies are not normally treated as contributions. However, regulation 21 of The Pension Protection Fund (Tax) Regulations 2006 provides that the Pensions Act levies will be deemed contributions, which means that tax relief will be given for payment of the Pensions Act levies by an employer. Any relief given for these levy payments is not subject to spreading rules.
 
HMRC has issued a chapter of the Business Income Manual (BIM 46000) which clarifies the position on the availability of relief on employer contributions where an employer is trading. In relation to investment companies the position is set out in HMRC’s Company Taxation Manual CTM08340. 
 

Areas of scrutiny

There are two areas where an employer pension contribution might come under scrutiny.
 

1. A business ceases to trade, or is being sold

Whether tax relief is given will depend upon whether the contribution was paid as part of a contractual obligation to provide pension benefits to their employees as part of their employment package. If this is the case, the contribution should be tax relievable. 
 
A number of examples (including previous case law) are set out in HMRC’s business income manual BIM 46040. 
 

2. Contributions for controlling directors and/or their close friends or relatives

Where the controlling director is also the person whose work generates the company’s income, then HMRC indicates that the level of the remuneration package is a commercial decision, and it is unlikely that there will be a non-business purpose for the level of the remuneration package. For other cases, a key factor to consider is whether the level of the remuneration package is excessive for the value of the work undertaken by that individual for the employer.   
 
General guidance on deductions for remuneration paid to close relatives of directors can be found at BIM 47105 and BIM 47106.  
 

Spreading of tax relief

Large, irregular pension contributions can trigger special tax relief rules. Normally, employer contributions qualify for relief only in the accounting period in which they are paid. However, if an employer makes a very large, non-regular contribution, the tax relief may need to be spread over up to four accounting periods.

It’s important to note that if an employer operates multiple registered schemes, spreading is assessed separately for each scheme—it does not apply to the combined total contributions across all schemes.

For spreading to apply, the following conditions must all be met:

• the contribution is more than 210% of the contribution paid in the previous chargeable period.
• the excess (i.e. employer contribution less 110% of that paid in the previous chargeable period) is £500,000 or more.
• the increase is not due to funding a cost-of-living adjustment for pensioners or meeting future service liabilities for new scheme entrants.

 
Where a spread is to apply, the excess will be spread in accordance with the following table:  

Excess	Spread
£500,000 or more but less than £1,000,000	Over 2 accounting periods
£1,000,000 or more but less than £2,000,000	Over 3 accounting periods
£2,000,000 or more	Over 4 accounting periods

Where no contribution was paid in the previous chargeable period (e.g. where an employer has only just set up a registered scheme), tax relief on contributions in the current chargeable period will not be spread. 
 
Further details of the spreading of tax relief, including examples, are set out in HMRC’s guidance within PTM 043400. 
 
The following example will help to demonstrate how spreading of relief works:

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Overseas employees and UK pension contributions

Employers can, in principle, contribute to a UK-registered pension scheme for employees based overseas and still obtain UK tax relief. However, practical and regulatory challenges often make this difficult.

If an employee already holds a personal pension, the employer may contribute to it. The five-year restriction on tax-relieved contributions that applies to individual contributions does not apply to employer contributions. Personal pensions must be set up by the employee and cannot be setup by an employer. For individuals already living outside the UK, this can be problematic.

Trustees or providers must ensure compliance with any local regulatory requirements before accepting contributions for a non-UK resident member. Due to these complexities, many providers and trustees decline pension business for overseas employees.
 

In-specie contributions

Contributions to registered pension schemes are generally required to be in cash. The exception is the transfer of legal ownership of ‘eligible shares’—shares acquired through a savings-related share option scheme (SAYE or sharesave) or a share incentive plan (SIP)—provided the transfer occurs within 90 days of entitlement.

In-specie contributions of assets other than eligible shares are no longer permitted.