Mitigating inheritance tax through use of a SSAS – case study
7 November 2019
Stephen McPhillips, technical sales director, Dentons Pension Management uses a case study to spotlight how using a SSAS in pension planning can help to mitigate inheritance tax.
This article was first published in the November 2019 issue of Professional Paraplanner.
Jo and Brian have been running their IT consultancy limited company business very successfully for many years. As their business grew year by year, they employed more staff and it eventually became necessary to look for an alternative to the extension they had built onto their home. Until now, the purpose built extension had been of sufficient size to accommodate their business.
Locating a modern office building on a business park close-by was relatively easy for Jo and Brian because they had been monitoring the property market for some time. For them, the more difficult task was deciding how to fund the purchase of the office. To date, their IT business had been profitable and cash-generative and their operating overheads were relatively low. In turn, this had enabled Jo and Brian to enjoy the fruits of their labours by extracting profits from the business in the form of substantial annual dividends. The success of the business had also meant that the company had substantial cash reserves. It could have purchased the new office building outright (at a cost of £285,000), had Jo and Brian wanted to do so.
However, Jo and Brian were becoming more and more conscious that their continued success was creating a potential Inheritance Tax (IHT) problem. With a couple of teenage children to think about, they sought advice from both Phil, their Accountant, and Marie, their financial planner. Jo and Brian had experienced Phil and Marie working collaboratively on their behalf in the past and found it to be very effective.
Working hand in hand, Phil and Marie discussed various options for the office purchase; company purchase, personal purchase by Jo and Brian or purchase through a self invested pension scheme (SIPP). Jo and Brian gained an understanding of the pros and cons of each approach.
Uppermost in their minds was the fact that their teenage children were likely to join the business in the near future and they really liked the idea of being able to pass the property down a generation with no IHT implications.
Another key consideration for all concerned was the extraction of cash from the business. Jo and Brian had realised that once paid into their personal bank accounts, the dividends became part of their personal wealth for IHT calculation purposes and they had already amassed enough wealth each to breach the nil rate band threshold. The idea of accumulating additional wealth outside of their Estate through a registered pension scheme was very attractive to them, particularly considering that member and employer contributions were very tax efficient in themselves. Jo and Brian accepted that they hadn’t funded their executive pension plan (EPP) scheme as much as they could have in the past (between them, they had accumulated funds of £100,000 in the EPP). They also accepted that the scope for member contributions was limited because of their focus on dividends to keep their salaries low as part of wider tax planning in place.
Using a SSAS
Having weighed-up all factors, and having taken Marie’s financial planning advice, Jo and Brian agreed to convert their EPP scheme into a small self administered scheme (SSAS). Marie had explained that such a mechanism simply widened-out the investment powers available to the trustees and enabled the direct purchase of commercial property. Marie also explained that this had the added advantage of avoiding the need for a new SSAS to be registered, which in turn speeded-up the property purchase process.
With the conversion of the EPP to SSAS having taken place, Jo and Brian arranged for their limited company to make an employer contribution of £220,000 into it (using some unused Annual Allowance through Carry Forward). They were pleased to be reminded that this contribution would be treated as a business expense through the company’s Profit and Loss Account (P&L) and substantially reduce its Corporation Tax liability, without it adding to their personal wealth.
As trustees of the SSAS, Jo and Brian purchased the office building with the cash held within the trustee bank account. The property was then immediately leased to their limited company at a RICS Registered Valuer’s confirmed annual rent of £21,375, representing a 7.5% annual yield.
Jo and Brian noted a number of benefits from this. Firstly, the rent was being received tax free into the SSAS to grow for their retirements. Secondly, it was a further business expense through their company’s P&L. Thirdly, and very importantly for them, the £21,375 was not inflating the value of their personal wealth as it would have done if they had personally bought the property and leased it to their business. They calculated that the additional IHT liability on their estates would have been £8,550 (40% of £21,375) for each year they held the property personally.
For Jo and Brian, the real icing on the cake was the fact that the property was growing in value, free of Income Tax, Capital Gains Tax and IHT and that, through the SSAS, it could be cascaded down through the generations free of IHT. Marie pointed out that at a value of £285,000, had this property sat within their Estates, it would have created an additional IHT liability of £114,000.