Update on VAT on pension fund costs and recovery

8 minute read
03 February 2015

Last year, HMRC issued two Briefs (Nos. 43 and 44) setting out more information on its policy on the VAT treatment of pension scheme costs. HMRC has needed to reconsider this area after the European court decisions in the PPG and ATP cases.

However, not for the first time, HMRC's pronouncements raise as many questions as they provide answers.

The position is still in some flux, but employers need to be getting to grips with the issues now and to be taking advice from their tax advisers and lawyers, to ensure that they do not lose out on VAT recovery.

This update sets out a brief overview of the issues, focusing primarily on DB schemes, but at the end also briefly considers the changes that have arisen for DC schemes.

Reminder of the background

As a reminder, HMRC's policy before the PPG case was to treat the costs of management and administration of a DB scheme as costs linked to the employer's business. This meant that VAT on those costs could be deducted as input tax. This applied even where the services were supplied primarily to the trustees rather than the employer.

However, that policy did not allow deduction of VAT on investment charges - as those costs were deemed to be linked to the fund itself, not to the employer's business.

Where an invoice combined both investment and administration services, HMRC allowed the employer to assume that 30% of it related to administration, with the other 70% being attributed to investment (the so-called "70/30 split").

The PPG case changed that policy by making it inevitable that HMRC would have to allow the deduction of VAT on investment charges as well. In the PPG case (involving a Dutch company) there was a clear supply to and contractual relationship with the employer, but (in the United Kingdom) such an arrangement is less common, especially following the Pensions Act 2004.

The contractual dimension

However, what HMRC might be forced to give with one hand, they may be taking away with the other. It no longer looks as straightforward to deduct the VAT on administration and management costs as had previously been thought to be the case.

Under its revised approach, HMRC is focusing on the contractual relationships. Before an employer can ever deduct VAT on an invoice as input tax, they say that there should be a contractual relationship between the supplier and the employer. That raises problems when the supply of services constitutes advice to the trustees.

Where professional advice is provided to the trustees, and their interests may conflict with those of the employer, it would be uncomfortable both for the adviser and for the trustees to have the employer as an additional party to the contract between them. It does not sit well with trustees' duty of good governance and duty to manage conflicts of interest, nor with the regulatory obligations that may apply to the adviser.

This applies to legal advice and to actuarial advice on funding matters, or indeed to any form of consultancy advice where the interests of the employer and the trustees are not identical. For more uncontroversial services such as administration, it may be easier.

The legal position

Establishing the necessary link between the supply of services and the payment received for those services need not, from a VAT perspective, be solely dependent on establishing a contractual relationship, but the decision of the VAT and Duties Tribunal in the Telent case illustrates the difficulties of establishing it in the absence of a contractual relationship.

Even where a contractual relationship does exist, that is not in itself sufficient. This was demonstrated by the recent Airtours case in which there was a tripartite contract between an adviser (an accountancy firm), the party paying its fees (Airtours) and the party to whom its services were primarily provided (banks who were Airtours' creditors). In this case the Court of Appeal denied recovery of VAT to Airtours on the grounds that the advisory work did not comprise any supply of services to Airtours, only to the banks.

This is clearly a difficult area. The best analysis for employers would obviously be that all trustee advice costs should be deductible by the employer as input tax, because the pension scheme exists as a part of the employer's reward package for its employees and it is therefore logical that the pension scheme's costs should be seen as part of the costs of running the employer's business.

What matters, however, is the extent to which HMRC is willing to accept that view. We are engaging with HMRC through the professional bodies of which we are members to promote that analysis.

What should employers do now?

HMRC has said that it is going to update VAT Notice 700/17, which is the document setting out its policy on the VAT treatment of funded pension schemes. The logical course, therefore, is to wait until that update has been issued, by which time HMRC should have considered and addressed the representations being made to it on the issues relating to contractual relationships.

However, an immediate problem is that the key aspects of the change of policy have already taken effect, even though Notice 700/17 has not yet been updated. In relation to any VAT being incurred now, therefore, employers have a potential problem.

HMRC has allowed a transitional period until 31 December 2015 during which employers can continue to operate under their existing policy. Read literally, that transitional period only applies to the use of the 70/30 split, not to any other aspects of their policy. So for VAT on services that do not contain a mixture of investment and non-investment charges, that transitional period is of no use.

We therefore recommend that employers should at the least be holding conversations with their tax advisers and lawyers now, to ensure that they are doing everything they can to avoid losing VAT recovery.

We can advise on how best to structure the services and on the extent to which the contractual relationships can be restructured without causing problems in respect of the parties' (particularly the trustees') other legal obligations.

There are solutions to all these issues but, given the uncertainty over where HMRC will land on these issues, reaching those solutions is, at the moment, rather like walking across a minefield in the dark.

What should trustees do now?

Trustees should be aware that their sponsoring employers are likely to be approaching them over this issue, and should be mindful that they may well be asked to move swiftly. While they will not wish to frustrate the employer's recovery of VAT, they also need to protect their own position by ensuring that they do not agree to any restructuring of contractual relationships that would expose them to claims that they have not complied with their legal duties.

What about DC schemes?

There has been separate litigation in respect of DC schemes. The ATP case decided that administration services provided to DC pension funds are VAT-exempt, as the funds fall within the exemption for "special investment funds".

Even on this, however, it is necessary to pay careful attention to the language used in the judgment itself and in HMRC's statements of policy relating to it, and not simply to assume that all costs for DC schemes are necessarily exempt.

Again, therefore, we recommend that employers should engage with their advisers to ensure that they maximise the possible VAT recovery.


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