Sipp (Self Invested Personal Pension)
A Self Invested Personal Pension (SIPP) is a type of personal pension plan. It works in the same way for contributions, tax relief and eligibility. However the main difference is that the SIPP has a more flexible approach to investments.
A conventional personal pension generally involves the plan holder paying money to an insurance company for investment in an insurance policy. This means the money is invested with relatively little choice or freedom from the plan holder.
A SIPP allows the plan holder much greater freedom in what to invest in and for the plan to hold these investments directly. The plan holder can have control over the investment strategy or can appoint a fund manager or stockbroker to manage the investments.
For SIPP contracts written under trust, the trustee controls the investment under instruction from the member. It is possible for the plan holder to be the trustee. If this is the case, an approved administrator must be appointed to carry out investment transactions.
Starting
A SIPP can be started by an individual or by an employer. An HMRC-approved provider includes insurance companies, pensions consultants and fund managers, among others.
Depending on the type of provider, the plan will involve at least a scheme provider and a scheme administrator (which may be the same organisation). If the SIPP is trust-based, and you are not going to be the trustee, the provider or another specialist must act as trustee.
A SIPP can be started from scratch or by transferring funds from another plan.
Do I need a substantial-fund to invest in a SIPP?
No, but the larger the fund, the greater the investment opportunities. Also charges levied by providers are often subject to a minimum flat rate amount, which can mean that very small contributions are not viable.
If you want to use your SIPP to invest in property, the SIPP must have sufficient funds to buy the property (either outright or with a mortgage). A SIPP is restricted in the amount it can borrow.
Structure
Depending on the type of provider, the scheme will have at least a provider, administrator and, under trust-based schemes, a trustee. These roles may be filled by one company or a combination of companies and individuals.
The scheme administrator carries out the day-to-day running of the SIPP, for collecting and recording your contributions to the SIPP. An official administrator (which can be the same company) also reports to HMRC, for example when claiming tax relief on your contributions to the SIPP.
The trustee owns the assets in the SIPP; purchases and sales are made in the trustee’s name, so that these transactions enjoy the tax-protection of the SIPP.
Actual investment decisions can be made by the policyholder or by an investment manager.
What do the terms ‘closed architecture’ and ‘open architecture’ mean?
Some providers restrict investments to a range of pre-selected funds, often just their own. These arrangements are called ‘closed architecture’. A scheme with ‘open architecture offers a wider investment choice.
Investments And Loans
The main difference between personal pension plans and SIPPs is that the latter provides a policyholder with greater investment freedom.
Allowable investments include:
- UK and overseas stocks and shares;
- Unlisted Shares;
- Unit Trusts;
- Investment Trusts;
- Open ended investment companies (0EICs);
- Insurance company funds;
- Deposit accounts;
- Gilts and overseas securities;
- Commercial properties; and
- Cash.
Some investments, although allowed by HMRC, are subject to tax penalties of up to 55% on any gains. They include:
• Residential property
• Pride in possession assets such as paintings, antiques, vintage cars
• Gold bullion.
NB National Savings and Investments (NSI) have confirmed that some of their investments, including Premium Bonds, cannot be held in a SIPP.
Protected Rights
Since 1 October 2008, it has been possible to transfer Protected Rights funds into a SIPP. Protected Rights is the name given to the fund accumulated from National Insurance rebates whilst contracted out of the State Additional Pension.
Connected Parties
There are limits on SIPPs buying or selling assets from or to connected parties.
Transactions between a pension plan and a connected party within the following categories must be carried out on arms length bargain terms. Transactions between anyone in theses categories that are not carried out on arms length bargain terms may result in an unauthorised payment (i.e. a tax charge of up to 55%).
Arms length bargain is defined by HM Revenue a Customs as a normal commercial transaction between two or more persons.
• Category A – Any transactions between the pension plan and the member or sponsoring employer.
• Category B – Any transactions between the pension plan and people connected with members and or connected employers. Connected for this purpose means anyone who falls within the definition of section 839 ICTA 1988.
• Category C – Any transactions between the pension plan and a third party, which is directly or indirectly for the benefit of a member or sponsoring employer.
Example: A pension plan sells an asset worth £100,000 to a member at a price of £50,000. There is value passed to the member of £50,000 and this amount will be taxed as an unauthorised payment.
Charges
The charges levied on a SIPP are numerous, vary from provider to provider and can really be quite substantial. Hence it is very important that a potential investor knows what they are getting themselves into before committing to such an investment.
SIPP providers will usually impose both a set up charge and an annual administration fee. A typical set up fee would be between £250 and £350 and a typical yearly administration charge would be between £400 and £500. The extent of such charges can however vary between both providers and the size of the individuals initial investment or fund value.
What are the costs associated with using a SIPP to invest in property?
A SIPP provider is likely to charge in the region of £450 to £750 for each property transaction and charge an annual property fee of between £400 and £650. Then there are legal fees and stamp duty on purchases made by the pension fund, plus mortgage charges. In the case of foreign property purchase (holiday homes for example), there may also be foreign taxes to pay.
These charges are of course in addition to the initial set up fee and annual administration charge.
If you seek and obtain financial advice relating to your SIPP investments, the costs of this can be claimed from the fund, charged on a deal by deal basis.
Borrowing
A SIPP can borrow money against the value of the funds for bona fide investment purposes, subject to certain restrictions.
A SIPP can borrow funds for any purpose providing that the scheme administrator/trustees of the plan are satisfied that the borrowing will benefit the scheme.
A SIPP can borrow up to 50% of the schemes assets before the borrowing has taken place. Which means that the value of the asset being purchased by the borrowing must not be taken into account when calculating the fund value unless, exceptionally, it is already a scheme asset before the borrowing takes place (e.g. a re-mortgage).
If the policy is split into segments, the limit applies to each separate segment.
Any existing borrowing must be taken into account when calculating this limit.
For example,
XYZ Self-Invested Personal Pension Scheme has assets worth £200,000 but has previous outstanding borrowing of £50,000.
The maximum amount which can be borrowed is £200,000 Less £50,000 x 50% = £75,000, i.e. further borrowing allowed of £25,000.
The 50% limit includes any borrowing to pay for any value added tax. So there is no separate limit for this.
What happens if the scheme assets drop in value after the loan is obtained, which results in the borrowing exceeding the 50% limit?
There is no need to retest the borrowing limits unless any further borrowing takes place.
Can the borrowed amount be repaid other than from the scheme’s assets?
Yes, but this might not be sensible as there would be no tax relief on the repayment.
I already have existing borrowing in excess of 50%. What happens to this after ‘A’Dav?
Any loan taken out before A Day will not be re-tested at that date. However, it will be taken into account in the 50% limit should the self-invested personal pension wish to borrow further amounts after 5 April 2006.
I alreadty have existing borrowing. For the 50% test, do you take the initial borrowed amount or the current amount?
It is the current amount of loan outstanding including any interest.
Does the loan have to be taken out on ‘commercial’ terms?
Yes
How are scheme assets valued for the purpose of the borrowing limit?
As a self-invested personal pension scheme is a money purchase arrangement, the scheme assets are valued by taking the aggregate amount of money and the market value of assets held under the arrangement. The market value generally means the price which those assets might reasonably be expected to fetch on a sale in the open market.
Where can SIPPs borrow money from?
A SIPP can borrow funds from any individual, company or financial institution whether or not they are connected to the scheme. The transaction must be made on an arm’s length basis. If not, then this may create an unauthorised payment. Breaking the rule will result in a 40% tax charge.
What does a ‘connected party’ mean?
A person is connected with another person if that person is the individual’s wife or husband, or is a relative, or the wife or husband of a relative, of the individual or of the individual’s wife or husband.
Trustees are deemed to be connected with settlers of trusts. People in a business partnership are also deemed to be connected. Partners are also connected to their fellow partners spouses and relatives.
A company is connected with another company if the same person has control of both, or a person in control of one is connected in one of the ways above with a person who controls the other company.
What happens if a self-invested personal pension scheme borrows more than 50%?
If a scheme borrows more than 50%, the pension scheme is treated as making a scheme chargeable payment and will be subject to a scheme sanction charge of currently 40% on the amount of borrowing over 50%.
Where there has been previous borrowing, the amount of the scheme sanction charge will depend on whether the original loan is below the 50% limit immediately before the new borrowing takes place.
If the amount of the original borrowing is below the 50% limit only the amount of the new loan that exceeds the 50% limit will be chargeable. For example,
XYZ self-invested personal pension scheme borrows £75,000 on 1 December 2006 to purchase a property. The net value of the personal pension scheme arrangement as at 30 November 2006 is £160,000.
On 1 December 2008 the amount outstanding on the original loan is £70,000 including interest and the personal pension scheme arrangement has a net value of £250,000. The scheme borrows a further £60,000.
The borrowing limit is 50% of the net value of the arrangement, which is £125,000 and as £70,000 of the previous borrowing is still outstanding only £55,000 of the limit remains.
As the new borrowing is £60,000 the scheme is liable to a sanction charge on £5,000 @ 40% = £2,000.
This tax is payable by the scheme administrator.
If, however, the amount of the original borrowing exceeds 50% of the value of the scheme immediately before the new borrowing takes place (e.g. if there has been a drop in value of the scheme assets after the original borrowing was taken out) the scheme sanction charge will only be charged on the whole amount of the new borrowing. For example,
XYZ self-invested personal pension scheme borrows £50,000 on 1 December 2006 to purchase some shares. The net value of the personal pension scheme arrangement as at 30 November 2006 is £100,000.
On 1 December 2008 the scheme borrows a further £20,000.
As the amount outstanding on the original borrowing (L45,000) exceeds 50% of the fund value (E40,000) immediately before the new borrowing takes place, the scheme is liable to a scheme sanction charge on the amount of the new borrowing £20,000 @ 40% = £8,000.
The tax is payable by the scheme administrator.
Transfers
The rules for SIPP transfers are exactly the same as those for personal pensions, meaning that it is generally possible for a member of a SIPP to transfer their benefits to any occupational pension scheme they join, a personal or stakeholder pension, an FSAVC (if this is active) or indeed another SIPP.
SIPPs can accept transfers from the following types of UK pension plan:
• Personal or stakeholder pension plans
• Retirement annuity contracts
• Occupational pension schemes (including EPPs and SSASs)
• Statutory schemes (public sector schemes)
• AVCs and FSAVCs (subject to the terms and conditions of the AVC/FSAVC scheme) • Section 32 Buy-out plans
• Pension Credit monies from a divorce.
A SIPP can also accept a transfer from an overseas pension arrangement although this does depend on the specifics of the situation.
Since 1 October 2008, it has been possible to transfer Protected Rights funds into a SIPP. Protected Rights is the name given to the fund accumulated from National Insurance rebates whilst contracted out of the State Additional Pension.
Can a SIPP be transferred to an overseas pension arrangement?
Generally Protected Rights have to be held separately from a SIPP, because they need to be held within certain types of investment vehicle. This restriction may be subject to change in the future. Please check the position with your SIPP provider.
Can a SIPP accept transfers from a pension plan that is paving an income?
No, unless the arrangement is in drawdown. SIPPs can accept transfers in drawdown from other personal pension plans, including SIPPs
Regulation and Complaints
SIPPs can only be provided by types of organisations that HMRC has agreed can do so. Those organisations are regulated by the Financial Services Authority (FSA).
Sales and marketing complaints against a SIPP provider can be referred to the Financial Ombudsman Service or the Financial Services Compensation Scheme (which sorts out complaints against firms that have ceased trading). Maladministration complaints against a provider can be referred to the Pensions Ombudsman.
Your home may be repossessed if you do not keep up the repayments on your mortgage or any loan secured upon it. You can pay for our mortgage advice service by a combination of fee only or commission that we would receive from the provider. The level of any fee would depend on the circumstance of the case but we would estimate the fee to be 0.5% of the loan advanced.
Veracity financial planning is not responsible for, nor does the Financial Services Authority regulate advice given with regard to taxation matters regard to trusts; some aspects of tax advice; commercial mortgages or second charge secured lending.
“The value of your investment can fall as well as rise and you may get back less than you pay in.”