UK: Employee Benefits Review - Winter 2015/16

Last Updated: 1 December 2015
Article by Smith & Williamson

A summary of topical employee benefits issues for chief executives, HR directors and finance directors

PREDICTIONS OR FOLLY?

By Peter Maher

Whenever I put pen to paper to offer my view on where the world is going, within a couple of weeks I find myself looking foolish — and this time is likely to be no different.

It's fair to say the world economy is fragile, but with some cause for encouragement. The UK has a majority government with a mandate to carry out its policies, projected GDP is strong at 2.4%, unemployment is at its lowest since 2008 and employment is the highest it's ever been. But set against a backdrop of China overheating, huge personal debt yet GDP of 7%, Russia in deep recession, the rouble collapsing yet spending of 6% of GDP on military hardware, the growing problem of migration and the recent atrocities committed by IS, and it's easy to understand why making any kind of prediction is at best difficult or just plain folly!

At home, higher interest rates are likely by Q2 next year, although increases will be modest so returns on cash are expected to remain poor. As a result, equities and some alternative asset classes, such as infrastructure and commercial property funds, will retain their popularity.

Meanwhile, pensions legislation is coming in thick and fast. Among the announcements in the Chancellor's Summer Budget were a restriction on contributions to £10,000 per annum for those with adjusted earnings above £210,000 per annum, the continued 'carry forward' of unused relief and the potential to pay up to £80,000 in the 2015/16 tax year.

Furthermore, there is a Pensions Green Paper examining the possibility of a root and branch overhaul of pensions. Pensions tax relief costs the Chancellor around £50bn per annum, with high earners receiving around £11bn of it. A flat-rate tax relief of 33% has been proposed, irrespective of earnings. More radical is the proposal to make pensions more akin to ISAs, with contributions paid out of earned income, tax-free growth and anytime tax-free access to the assets of the plan/scheme. In my view, however, the latter approach is likely to be fraught with disaster 20 years from now.

TOO MUCH OF A GOOD THING?

Benefit packages risk taking employees over lifetime allowance

By Ed Reynolds

The reduction in the pension lifetime allowance means employee benefit packages risk pushing certain employees over this threshold.

Benefits such as employer pension contributions (including auto-enrolment payments) and even death-in-service pay-outs can unexpectedly take employees over the lifetime allowance of £1m from 6 April 2016 or annual allowance of £40,000, with costly tax consequences.

The use of flexi-benefits packages can exacerbate the situation. While employees can select a personalised annual package of benefits, the process can mask the effects on their pension, leaving the individual unaware of the full implications of their choices.

Be vigilant

While most people are rightly keen to build up their pension savings, the drop in the LTA to just £1m will mean many middle and higher earners, particularly those who have been investing in a pension for some years, could be caught out. HR teams need to be alert to the position of senior employees who may have amassed savings approaching the upcoming £1m threshold, as well as those who are promoted and receive a pay rise, as they may get a hike in benefits.

Similarly, HR teams should review their take-on procedures. It's prudent to check the pension position (including final salary membership) of new joiners. This is particularly relevant for new employees joining at a senior level.

Taking action if affected

In the event that benefits paid by the employer look as if they could take the employee over the lifetime allowance, their reward contract will need to be reviewed and potentially restructured. In some circumstances, employer pension contributions should cease, particularly if the employee is a high earner, as there is a further reduction in the annual allowance for individuals earning in excess of £150,000 a year.

Death-in-service benefits, payable on death of an employee, should also be considered, as they are typically added to the value of the employee's pension pot. This could mean the individual exceeds the LTA on death so that the bereaved family is potentially charged tax at 55% on benefits in excess of the LTA. Given that pay-outs may be as much as eight or even ten times annual salary, it's important to check how this could affect individuals.

In all instances, advice should be sought to mitigate the risk of breaching the allowances and therefore minimise the potential risk of litigation.

NO WAY BACK

Employers and trustees must act now

By Julia Ridger

Refunding surplus

The clock is ticking for trustees to preserve their power under scheme rules to refund surpluses which arise on an ongoing basis to employers. Schemes will be barred from making such payments to employers — unless a trustees' resolution is passed to preserve the power in accordance with section 251 of the Pensions Act 2004.

It's unlikely that the majority of defined benefit pension schemes will be overfunded on an ongoing basis. However, if an employer wants to protect the power then a trustees' resolution must be passed by 5 April 2016, although a decision on whether to pass a resolution must be made by the end of 2015, as members of the scheme need to be consulted three months beforehand and employers need to be notified. So a communication exercise will need to be undertaken.

If a resolution is not passed in time, then the power will cease to exist. This will mean that if a surplus on an ongoing basis under a defined benefit scheme arises after 6 April 2016, the employer will be unable to receive the surplus payment back from the scheme.

End of contracting-out

Trustees have until 4 April 2016 to apply to HM Revenue & Customs (HMRC) to use its 'scheme reconciliation service'. This enables trustees to properly identify, record and manage the contracted-out liabilities of defined benefit pension schemes. Defined benefit schemes with active members will lose their current rebates and will have to pay full-rate employer and employee National Insurance Contributions (NICs) in future.

Employers and trustees will have to consider the impact of the increased costs, as well as the potential options available to them, i.e. absorbing the costs, increasing member contributions, reducing future service benefits or closing the scheme to future accrual. Options for employers who participate in public sector schemes will be severely curtailed.

Employers may have little choice but to pay the increased costs for the employer and employee, as a result of the move to full-rate NICs. This will be an added expense that could have been avoided.

VAT on services to trustees

HMRC's new policy for the recovery of VAT on services to trustees is still being considered. Following extensive consultation with the industry however, the transitional period that was due to end on 1 January 2016 has now been extended to 31 December 2016, which is welcome news for sponsoring employers of defined benefit pension schemes. Employers can therefore continue to recover VAT in the usual way for another year.

UNLEASH INNOVATION IN YOUR BUSINESS

Research and development tax credits

By Laurence Bard

Research and development (R&D) often tends to be overlooked when looking at the strategy of a business. In some cases, management are too focused on day-to-day activities and driven by short-term financial targets, which prevents them from concentrating on areas likely to provide long-term benefits. However, in today's fast-moving markets, R&D is a key element to business growth and can set you apart from your competitors.

Not just for the tech sector

It's not just technology-intensive businesses that can and should be focused on innovation and development. R&D is relevant to businesses operating in all sectors, from property and financial services to media and digital businesses. It can help you achieve your growth goals by further developing an existing product/service, resulting in an increase in demand from customers, or by helping you to create new revenue streams.

A prime example of this is food and drink manufacturer Innocent, which continually seeks to diversify its range and stay one step ahead of its competitors. Another is Google, a brand renowned for continually adapting to market changes and developing new products that aim to be life-changing and at the forefront of the market, for example through its launch of Calico, a spin-off company working to extend the human lifespan.

Among our clients are those developing software, crowdfunding, retailing, Formula 1 racing components, internet-based specialist holidays and nuclear plant decommissioning strategies.

Improving your systems

In industries where R&D is less apparent, such as property or financial services, it can still be used to supply your customers or operate your back-office functions more efficiently. The financial services industry spends the majority of its R&D efforts developing or improving trading platforms, creating bespoke CRM systems and enabling different systems to 'talk' to one another. In other industries, it may be as simple as developing a new website or app with bespoke elements or innovative ways of interacting with other systems.

R&D tax credits may apply

The UK Government is promoting sustainable economic growth and encouraging businesses of all sizes to innovate by offering incentives such as the R&D tax credit. This is dependent on the amount of R&D expenditure incurred, the date of expenditure and whether the business is loss-making. Currently, small or medium-sized businesses can potentially receive a payment of £3,350 for every £10,000 spent, or £880 for larger companies, which can help with cashflow and reduce the net cost of R&D activity.

While R&D tax credits and other government incentives can help minimise costs, you'll need a long-term view of your R&D strategy, which should be aligned to your overall business strategy. As GSK states: "R&D is no longer a budget... R&D is an opportunity to invest..." In fact, it's an opportunity to take your business to a whole new level.

USE IT OR LOSE IT

One-off extra 2015/16 pension contribution allowance of up to £40,000

By Mike Fosberry

Last big opportunity looms for 45% tax relief on pension contributions.

A one-off extra annual pension allowance of up to £40,000 means high earners may be able to contribute up to £80,000 in the current tax year and still claim tax relief.

It was announced in the post-election Budget that the pension contribution 'clock' for 2015/16 effectively stopped on 8 July this year and restarted, in most cases, with a fresh allowance of up to £40,000.

So, if you had contributed, say, £10,000 before 8 July, you're now entitled to contribute a further £40,000 before 5 April 2016 with tax relief at up to 45%. This would make your total allowance for this tax year £50,000.

Strictly speaking, and taking into account the way the old rules worked, relief available from 9 July 2015 to 5 April 2016 is either £40,000 or the net of £80,000 less amounts paid during the period from 6 April to 8 July 2015 — whichever is lower.

For example, if you'd put in £60,000 between 6 April and 8 July 2015, you would only qualify for an additional £20,000 allowance, making a total of £80,000 for the year to 5 April 2016.

Maximise contributions for previous years

There is also a one-off opportunity for high earners to maximise any unused pension allowance for the last three tax years, attracting tax relief at their highest marginal rate.

This means the maximum possible contribution you could make before 5 April 2016 is £180,000 gross, made up of £50,000 each for tax years 2012/13 and 2013/14, with a further £40,000 allowance for 2014/15 and 2015/16. If the individual had made gross contributions of £40,000 between 6 April and 8 July 2015, then total gross contributions in this situation for 2015/16 could be £220,000. If you're an additional rate taxpayer at 45%, this equates to a total of £99,000 tax relief.

The opportunity has arisen following changes to the way pension input periods (PIPs) will operate. From 6 April 2016, they will be aligned with the tax year. After this point, for those with income in excess of £150,000, the annual allowance will reduce on a sliding scale for each increment in income, meaning as little as £10,000 could be contributed to a pension on an annual basis.

It's important to remember that your pension contributions for any given year can't exceed earnings for that period. Similarly, you should check your current savings against the pension funds lifetime allowance, which currently stands at £1.25m, but which will fall to £1m from 6 April 2016.

Plan ahead

If you think your pension fund could grow to more than £1m, you may be able to protect the higher limit. HMRC has announced that you can't do this until after 5 April 2016, but you'll need to plan well in advance of this date.

ECONOMIC OUTLOOK

By Christopher Bates

Politics appears to be the greatest potential threat to the UK outlook.

Volatility has remained a major theme in 2015. Investors have been confronted by a series of exogenous shocks, including the VW diesel emissions scandal, uncertainty over the direction of US interest rates and ongoing geopolitical issues stemming from the Middle East. Global deflationary pressures have persisted, mainly as a result of the continued decline in commodity prices.

The true extent of China's economic slowdown remains a key concern for markets. Its potential impact on growth in the rest of the world remains ambiguous and while we remain relatively upbeat about China's prospects, only time will tell if the economy is on the right path.

Silver lining

Closer to home the UK economy remains a bright spot. Recent economic data from the industrial sector has been on the weaker side, although this has been partly due to a downturn in manufacturing activity globally, stemming from weaker demand from China.

The UK's direct exposure to China is limited. Exports to China account for less than 4% of GDP, a similar size to exports to Belgium. Nevertheless, further uncertainty over global demand could indirectly impact negatively on corporate confidence, particularly willingness to invest.

On a domestic front, the clear positive for the UK going forward remains the environment for consumption. Low inflation and rising real wages are boosting disposable incomes and should support consumption, which at 70% of GDP is the main driver behind UK growth. The pick-up in UK wage growth over the past year is evidence that labour market conditions are tightening.

Interest-rate moves

Despite this, it's still our view that the Bank of England's Monetary Policy Committee is content to let the US Federal Reserve move first on rates. As yet, inflationary pressures remain non-existent and we're pencilling in the first modest rate rise in the UK for sometime towards the middle of 2016. Ultimately, it's not the timing of the first interest-rate hike, but the full extent of the interest-rate cycle that's more important for households, corporations and financial markets. Given the persistence of deflationary forces, we believe interest rates will remain lower for longer.

Political concerns

Looking ahead, the main risks for the UK appear to be political, with the European Commission set to discuss David Cameron's reform proposals in December, ahead of an in/out referendum as early as next year. What's clear is that the Prime Minister will want the UK's position confirmed before potentially destabilising French presidential elections in May 2017 — and in an ironic twist, before the UK takes the EU presidency in July of the same year.

LEARNING AND DEVELOPMENT

A mini guide

By Geraldine Buckland

Among some of the key strategies that employers are reviewing as a means of motivating their employees are learning and development (L&D) techniques.

Training

Training is the acquisition of knowledge and practical skills or, simply put, teaching people what they don't know yet. Most training tends to happen informally in the workplace, but well-designed courses or one-to-one sessions can help employees explore and consolidate knowledge.

Coaching

Coaching is a one-to-one process that identifies the latent skills and capabilities that someone already has, but either isn't aware of or doesn't feel confident enough to use. Coaching helps employees learn how to maximise their potential, although it can prove quite challenging. Change impacts on the person who has decided to change, as well as others who are accustomed to their existing pattern of behaviour.

Mentoring

Mentoring is a developmental relationship in which a more knowledgeable person acts as a guide. It's an ongoing relationship of learning, dialogue and challenge.

Sponsoring

A sponsor is someone who champions the cause of another in the context of career development, providing opportunities and actively advocating their cause to others.

Getting it right

There are similarities and overlaps with all these approaches, but it's important to use the right L&D technique because:

  • the person you're trying to help will need to buy into the process, as well as to the development content
  • the desired outcome is more likely to be achieved if everyone is clear about the objectives from the outset
  • developmental outcomes can only be achieved through suitable approaches
  • in some cases, it may be that more effective line management rather than L&D is the answer. This often becomes apparent when the manager explains the L&D options to the employee. At this stage, the manager may recognise their contribution to the current situation — and to its resolution.

Of course, managers can only access L&D techniques that are offered by their company — whether in-house or through external consultants. Moreover, companies need to be clear about how they define L&D interventions and their expectations.

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 2015. Code: 15/1130 Expiry date: 25/05/2016

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