UK: Financial Services And Markets Group Bulletin: Change For The Better – Summer 2014

Last Updated: 29 May 2014
Article by Smith & Williamson


By Colin Aylott

The UK economy continues to take on a healthier glow, helped by the Chancellor's recent crowd-pleasing Budget. Among the announcements affecting the financial services sector was the news that the annual investment allowance (AIA) has doubled to £500,000 and that the research and development (R&D) tax credit payable to SMEs has gone up to 32.63% of that expenditure contributing to a loss – a generous relief for those investing in IT and design improvements to bespoke technology systems.

Also announced in the Budget were sweeping reforms to how pensioners access their savings. In this issue, Kevin O'Shea considers the proposed plans and how they stack up against the current requirement for pension savers to take an annuity.

Ian Luck stresses the importance of planning for pensions auto-enrolment. Companies that do not engage with advisers early on in the process risk paying a premium to help meet their staging date or, worse still, a crippling fine for non-compliance.

Elsewhere, Guy Swarbreck discusses the need for certain types of investment firms to undertake country-by-country reporting under the Capital Requirements Directive IV (CRD IV), while Martin Sharratt examines the ambiguity around pension fund management services and asks whether they should be VAT exempt.

I hope you find our summer edition helpful and if you require further guidance on any of the topics featured, please contact me or a member of the team who will be happy to help.


By Mark Eade

Our annual survey of the financial sector showed, among other things, increased confidence in the state of the UK economy, a consequential increase in respondents' optimism for their own firm's performance for the forthcoming year, and a desire to increase investment in technology.

Summarised below are two key announcements from the Budget concerning incentives for investment – R&D relief and AIA. The former, in particular, is seldom claimed in the financial sector as firms often think that their business won't qualify for the relief. However, many financial services firms could potentially benefit from R&D tax breaks through their investments in technology.

AIA doubles

From 1 April 2014, the AIA doubled from £250,000 to £500,000. So, 100% tax relief is now available on up to £500,000 of capital expenditure qualifying for capital allowances. The increase in the allowance will be effective until 31 December 2015, with transitional rules applying for businesses with accounting periods spanning 1 April 2014 or 31 December 2015.

This is welcome news and gives firms an additional incentive to invest in equipment, as the accelerated tax relief can provide significant cashflow benefits. It should be noted, however, that this window of opportunity is only available until 31 December 2015, after which the AIA is expected to fall to £25,000.

R&D – a generous relief

Financial services firms should consider whether the investment they make in their IT systems qualifies for R&D tax relief. This may be the case for bespoke systems, where the business pays for IT design and improvement costs.

From 1 April 2014, the payable tax credit increased from 11% to 14.5% for SMEs, i.e. those with fewer than 500 employees that satisfy certain financial limits. With an uplift of 125% on qualifying R&D expenditure, loss-making SMEs will be able to reclaim 32.63% (14.5% of 225%) of that expenditure in the form of a payable tax credit.

This increase is particularly welcome for start-up and other companies undertaking R&D and incurring tax losses, though consideration will need to be given to the merits of the amount and timing of a cash refund now or tax relief later.

Larger companies incurring qualifying R&D expenditure currently have the option of claiming an enhanced deduction of 130% or a 10% expenditure credit. The amount of relief is slightly higher with expenditure credits, but can cause timing issues with quarterly instalment payments of corporation tax and accounting presentation can be a key issue for some companies. It is only possible for the expenditure credit to be reclaimed as cash by loss-making companies. While the expenditure credit is currently available by irrevocable election, it will be the only method of large company R&D relief from April 2016.


By Kevin O'Shea

Significant changes to pensions were announced in the Budget – offering pension savers more freedom, choice and flexibility than ever before on how they access their pension savings.

One of the main changes announced in the Budget was that there will no longer be a need for pension savers to buy an annuity. Anyone will be able to draw as much (or as little) from their pension pot, when they choose, once they reach retirement age. 25% of this pot will still be tax-free while the balance will be taxed as income in any year it is taken.

Changes so far

The proposals are still subject to consultation at present. However, several immediate changes have been introduced, including increasing the capped drawdown income limits by 25% (to 150% of an equivalent annuity) and reducing the secured income hurdle to enter flexible drawdown from £20,000 to £12,000. The intention is to remove this income limit altogether in 2015.

This new flexibility will raise some important issues for those reaching retirement, such as the level of a policyholder's disposable income in retirement and what happens if he or she pre-deceases their spouse?

Professional advice will often be needed on tax-efficient withdrawals of income, income sustainability, investment risk and cashflow planning – to guide people through the options and help them make the best decisions.

The role of annuities

The removal of annuity requirements is generally seen as a welcome step, although annuities still have a place for some retirees. As people live longer and have fuller retirements, it's important to ensure that lifestyles can be maintained and that a surviving spouse is catered for.

Annuities provide a guaranteed income for life and ensure that people are less likely to stretch themselves beyond their financial means. Death benefits are determined at the outset, as retirees can build in income allocations (e.g. 33%, 50%, 100% of income) to their spouse on death. However, this assurance against uncertainty is reflected in the cost of the provision and so will affect the ultimate annuity rate.

Under drawdown the risks related to longevity are met by the retiree, who will also need to factor in his or her spouse's requirements. On death a spouse may either inherit the pension fund in the current 'wrapper' and continue to drawdown or purchase an annuity without triggering a tax charge at that point. Income received will remain subject to the spouse's marginal rate of income tax. Alternatively, the spouse can opt to receive the cash value of the pension but will be subject to a 55% tax charge at current rates. The 55% tax charge may be reduced after the current consultation.

Meeting retirement aims

This added flexibility has been well received, but time will tell whether it is a good move and how the market and pension savers will respond to it. Either way, many individuals would be well advised to continue seeking professional advice to help them fulfil their aims in retirement.


By Ian Luck

It's a good idea to start your auto-enrolment planning early – especially given the growing demand on pension scheme providers and advisory firms to help companies meet their obligations.

The inevitable and inescapable progress of the auto-enrolment legislation has become a reality. So far, a slow trickle of larger companies with the dedicated resources and, perhaps more importantly, the finances to help them achieve a smooth transition to meet the regulations, have been establishing their arrangements.

But there is another very important factor that these companies have in their favour that the vast majority of employers may not – the market currently has the capacity to meet their demands. This means not only pension scheme providers, but also the advisory firms integral to helping such companies design, source and implement pension schemes to meet their obligations.

Projected staging dates

The Pensions Regulator's own projections show that over 12,000 employers, with 160 to 249 employees have reached their staging date.

However, industry experts predict that traditional pension providers only have the capacity to install 2,000 schemes per month. If this is true, in practice, where will the remaining employers go? They may have no choice other than to go to the National Employer Savings Trust (NEST), which is legally bound to accept all employers that want to use it. While this may well be the best place for these employers, many might prefer to have some choice over which solution to adopt.

The number of companies reaching their staging dates each month is set to rise steadily from this year – 40,000 per month by March 2016, 60,000 by August 2016 and nearly 100,000 by February 2017, before they peak between October and December 2017 at over 130,000 employers per month. So the situation is only going to get worse.

Heavy fines for non-compliance

Under auto-enrolment the regulators may impose heavy fines for noncompliance. So it's vital that pension providers control the services and therefore the number and nature of the schemes that they take on.

The reputational risk for providers of failing to meet the regulations is extremely high and there is a growing feeling that providers will only look to take on those employers that are showing an active interest in pension provision for their staff. Some providers are already refusing to offer terms to companies not engaging early in the process and allowing sufficient time to get their scheme in place before their staging date. Some may even decide that they are only interested in schemes above a certain minimum level of contributions.

Don't be left stranded

It's inevitable that as the number of companies seeking help from advisory firms increases, the fees they charge will rise. Some advisory firms have already set minimum fee levels that employers must meet if they want to engage their services. Many are now actively selecting the size and character of the companies they will work with and are turning away those that don't meet their business models. Companies that don't engage with advisers early on in the process will need to squeeze their services into a shorter timeframe and may find that if they wish to use an adviser to assist with auto-enrolment, they may have to pay a sizeable premium for delaying that decision.


By Guy Swarbreck

Certain types of investment firms are required to provide country-by-country reporting under the Capital Requirements Directive IV (CRD IV).

Following the introduction of CRD IV across the European Economic Area (EEA) on 1 January 2014, certain types of investment firms in the UK are now subject to its requirements. For firms affected, the first disclosures will be required by 1 July 2014.

The directive requires credit institutions and IFPRU firms to disclose annually, specifying by member state and by third country in which they have an establishment, the following information on a consolidated basis for the financial year.

  1. Name of company, subsidiaries or branches, nature of activities and location
  2. Turnover
  3. Number of employees
  4. Profit or loss before tax
  5. Corporation tax paid
  6. Public subsidies received

The information relates to the institution's period of account ending immediately before the date of its publication. The information must relate to the firm's total (not just regulated) activities. This requirement is known as country-by-country reporting (CBCR).

Which firms need to comply with CBCR?

Firms within the scope of CRD IV must comply. In the UK, these are credit institutions and IFPRU firms.

A parent company may publish the information on a consolidated basis for the relevant group, as long as all institutions within the scope of the regulations are covered in the group disclosure.

If an institution is a member of a group and a fellow group company in the UK or an EEA state has already published the group's CBCR information, the institution will not be required to republish this if it publicly discloses where the CBCR information can be found.

When does CBCR need to be published?

Points 1 to 3 will need to be disclosed on or before 1 July 2014 (interim reporting obligations). In addition, globally systemically important institutions are required to report items 4 to 6 confidentially to HM Revenue & Customs (HMRC) and the European Commission by 1 July 2014.

All points need to be published annually on an ongoing basis from 1 January 2015, with the first disclosure to be made before 31 December 2015 (ongoing reporting obligations).


31 March year-end

An institution has a year-end of 31 March and prepares its annual report in June. In 2014, the interim reporting obligations apply to information within the 31 March 2014 annual report and therefore the interim reporting obligations disclosure must be published on or before 1 July 2014.

30 November year-end

An institution has a year-end of 30 November 2014 and produces its annual report in February. In the first year of the ongoing reporting obligation, it will be required to publish the CBCR disclosure on or before 31 December 2015. The institution may choose to publish its disclosure in February 2015 (relating to the year ending 30 November 2014) and would therefore meet its obligation to publish on or before 31 December 2015.

Where does CBCR information need to be published?

Similar to the Pillar III disclosure requirements, the CBCR is intended to be publicly available. Institutions must therefore publish the CBCR information in a way that is easily and freely available, for example, within their annual report or on a website. They must state in their annual report where the information can be found and if published on a website the government expects institutions to provide a website link in the report. They must also publish how they comply with their CBCR obligations.


By Martin Sharratt and Antje Forbrich

There has been some confusion as to whether pension funds are exempt from VAT and contrasting decisions from several tax case rulings.

Investment management services are normally taxable, but where they are provided to special investment funds they are exempt.

A series of cases brought before the Court of Justice of the European Union (CJEU) examined whether pension funds should be regarded as special investment funds for this purpose – although the position is still far from clear.

Contrasting decisions

In one recent case (Wheels Common Investment Fund Trustees Ltd and Others v HMRC), it was held that a defined benefit pension scheme did not qualify as a special investment fund, while in another (ATP PensionService A/S v Skatteministeriet) the court ruled that a defined contribution pension scheme may qualify.

It is now for HMRC and the UK courts to decide where the line should be drawn, and how these contrasting decisions can be incorporated within a coherent VAT policy.

The ATP decision

The rationale behind the ATP decision was that although a defined contribution pension fund was not covered by the UCITS (undertakings for collective investment in transferable securities) Directive, it may be regarded as akin to a collective investment scheme if the:

  • scheme is funded by the members
  • funds are invested on a risk-spreading basis
  • pension recipients bear the investment risk.

The defined benefit schemes considered in the Wheels case did not satisfy these criteria.

A delicate balance

The court's decision in the ATP case may open the door for backdated claims where VAT has been charged on the management of defined contribution schemes.

Both Wheels and ATP have been handed back from the CJEU to the referring courts to determine how the rulings should be applied in their particular circumstances. HMRC has yet to issue any official response to ATP. It is likely to wait and see how the rulings are applied, and then consult widely before making any changes to its existing policy. As always, there is a delicate balance to be maintained between correctly and narrowly implementing a mandatory VAT exemption, and ensuring a level playing field for the industry.

Claiming a VAT refund

In the meantime, pension fund trustees will need to review their position. Some pension funds may already receive investment management services free of VAT under other provisions. For the rest, the trustees should now be approaching their fund managers to ask for a retrospective VAT refund.

Fund managers will find themselves in the unenviable position of having to bear the cost of making VAT refund claims to HMRC without obtaining any of the benefit, since any refund must be passed on to the funds which originally bore the VAT burden. That's not all: backdating the exemption of these services will affect the fund manager's partial exemption position and HMRC will expect all claims to be reduced by the amount of input VAT previously recovered in respect of their pension fund management activities.

We have taken great care to ensure the accuracy of this newsletter. However, the newsletter is written in general terms and you are strongly recommended to seek specific advice before taking any action based on the information it contains. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. © Smith & Williamson Holdings Limited 2014. 14/416 exp: 30/11/2014

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