Investment rules

There is only one set of investment standards for all registered pension schemes. This means that small self-administered schemes (SSASs) and self-invested personal pensions (SIPPs) are covered by the same set of HM Revenue and Customs (HMRC) investment rules as every other type of pension scheme.

Any investment held before 6 April 2006 is still subject to the rules in force when it was entered into and is not affected by the post-6 April 2006 new rules unless there's a change to the original terms.

Trustee's borrowings

Trustees of pension schemes can borrow money, provided it is used to benefit the pension scheme. 

PTM12400: Investments: borrowing

This money can be used by the Scheme Trustees for any benefit but it is usually used to enable the Trustees to:

  • buy commercial property
  • make a loan back to the principal employer (occupational pension schemes only)
  • buy shares

This money can be borrowed from any of the following:

  • individual
  • company
  • financial institution

If the money is borrowed from a connected party (see later), the loan has to be made on commercial terms.

The maximum amount that the Trustees can borrow is 50% of the current value of the scheme. 100% of scheme assets plus any scheme borrowings can be used to buy an asset. This means that the scheme could buy an asset worth 150% of the current value of the scheme.

The 50% limit is the total amount that a scheme can borrow. There is no separate limit for any associated costs involved in the purchase of the asset e.g. VAT.

The maximum amount that the Trustees can borrow is 50% of the current value of the scheme less any outstanding loans. The current value of the scheme can't include the current value of any existing borrowings.

Example
The current value of the registered pension scheme is £300,000 with outstanding borrowings of £50,000.

The maximum amount of additional borrowings can't be more than £75,000. Calculations are below:

(Current value - existing loan) x 50% - existing loan = Allowed borrowing

(£300,000 - £50,000) = £250,000 

£250,000 x 50% = £125,000 

£125,000 - £50,000 = £75,000

This is the market value of any uncrystallised and crystallised assets under the
scheme. This can include the value of any dependants' scheme pension or income
drawdown benefits, but it can't include any annuities in payment.

Land and property

There are many advantages in a pension scheme owning property or land, including:

  • No Capital Gains Tax liability when the property is sold.
  • Normally there will be no Inheritance Tax liability as the property is an asset of the scheme.
  • The rent paid by the tenant is tax deductible as a business expense, and the rent received by the pension scheme helps to increase the retirement benefits.

It is worth remembering that property is an illiquid asset and is likely to restrict the diversification of the fund and will need ongoing maintenance plus regular tenants to generate good returns.

PTM12500: Investments: taxable property

Commercial property, including:

  • hotels
  • student accommodation
  • care homes
  • prisons
  • shop
  • offices
  • overseas commercial property
  • development land

PTM125200:Investments: taxable property

A pension scheme can't invest in residential property. This includes:

  • A building or structure that is used or suitable for use as a dwelling.
  • Any related land that is wholly or partly the garden for the building or structure.
  • Any related land that is wholly or partly grounds for the residential property and which is used or intended for use for a purpose connected with the enjoyment of the building.
  • Any building or structure on any such related land.
  • A beach hut.
  • A property that also has a residential element (see some exemptions to this below). For example a building where some of it is used for commercial purposes, such as a shop, with an inter-connected residential area, such as a flat. The whole property will be treated as residential as it is suitable for use as a dwelling. Different parts of a building are inter-connected if they share a common entrance and where you can move from one part to another without moving through common areas.

PTM125200:Investments: taxable property

A pension scheme can't normally invest in residential property, but there are some exceptions. Examples of some of these exceptions are:

  • A piece of land that is having a house built on it as long as the land and house is disposed of before it becomes habitable.
  • A commercial property that is being converted to a residential property provided that the property is disposed of before it becomes habitable.
  • A property that is occupied by an employee who is neither a member of the pension scheme or connected to a member of the pension scheme and is required as a condition of employment to occupy the property e.g. a caretaker's flat.
  • A property that is occupied by a person who is neither a member of the pension scheme or connected with a member of the pension scheme and the residential element of the property is used in connection with the commercial element as an investment of the pension scheme e.g. a flat above a shop that is leased from the scheme with the shop, where the flat is occupied by the shop keeper.

PTM125200:Investments: taxable property

Loans

Loans to the employer is one way in which the pension scheme can be used to raise finance, whilst at the same time providing an investment return to the fund for the benefit of the pension scheme. No loans can be paid to a scheme member or anybody connected to the scheme member.

PTM123000: Investments: loans

If the pension scheme is an occupational pension scheme the money can be lent to the sponsoring employer or a third party. The third party can't be a member or anybody connected to a member. If the pension scheme isn't an occupational pension scheme the money can only be lent to a third party. A scheme that isn't an occupational pension scheme can't lend any money to an employer that's connected to the scheme member.

PTM123000:Investments: loans

Up to 50% of the market value of the scheme can be used.

If the pension scheme is  an occupatioal pension and the money is lent to the sponsoring employer the loan shouldn't be granted for more than 5 years, but under certain circumstances the loan can be extended by up to 5 years.

PTM123000:Investments: loans

If a loan is made to a sponsoring employer and that sponsoring employer gets into financial difficulty during the initial 5 year period, the loan may be rolled over for up to a further 5 years. This can only be done once.

PTM123200:Investments: loans: loans to sponsoring employers

Any loan made by a registered pension scheme to:

  • a person who is, or has been, a scheme member, or
  • a person/company connected with the person who is, or has been, a scheme member

will result in an unauthorised payment equal to the amount of the loan; the charge will be 40% of the amount of the unauthorised payment. In addition to this if the amount of the unauthorised payment exceeds 25% of the fund value there will also be a scheme payments surcharge of 15% bringing the total tax charge to 55%. A scheme sanction charge of 40% of the chargeable amount may also be levied on the scheme administrator.

A loan made by a registered pension scheme to a person/company connected with the person who is, or has been, a sponsoring employer will not result in an unauthorised payment in relation to the person who is, or has been, a sponsoring employer. This is provided the loan meets the same conditions as for loans to sponsoring employers generally (see PTM123200).

PTM123300:Investments: loans: loans to members and connected parties

The amount of the loan has to be secured throughout the term as a first charge on any asset owned by the person borrowing the money. This asset must be worth at least the same as the amount being lent plus the value of all the interest due over the term of the policy. If the asset that is being used as security is replaced by a new asset, the value of the new asset has to be at least equal to the value of the outstanding loan, including interest. In practice the security is likely to be a property.

PTM123200:Investments: loans: loans to sponsoring employers

The minimum interest rate a scheme can charge is calculated using the average of the base lending rates of the following 6 banks plus 1%, rounded up to the nearest multiple of ¼%:

  • The Bank of Scotland plc
  • Barclays Bank plc
  • HSBC plc
  • Lloyds Bank plc
  • National Westminster Bank plc
  • The Royal Bank of Scotland plc

All loans have to be repaid in equal instalments of capital and interest for each complete year of the loan.

PTM123000:Investments: Loans: Interest

Stocks and shares

A pension scheme can purchase shares in any company, regardless of whether or not they are listed on a recognised stock exchange. An occupational pension scheme is however restricted in the amount of shares that it can purchase in the sponsoring employer or employers.

PTM122000: Investments: shares and equities

Up to 5% of the fund value can be held in shares of the employer or an associated company. The Trustees can buy shares in more than one sponsoring employer of the scheme providing that at the time the shares are bought the market value of the shares is less than 20% of total value of the scheme. There is no restriction on the maximum percentage of shares that can be held in one company. For example a scheme could potentially own 100% of the shares of a company provided that the amount being invested is less than 5% of the fund value mentioned above.

PTM122000: Investments: shares and equities

If an occupational pension scheme held shares in a sponsoring employer before 6 April 2006 the shares can continue to be held. If however, the scheme buys shares in a sponsoring employer after 6 April 2006 the 5% limit will apply and the total value of shares including the value of the shares held prior to 6 April 2006 will have to be taken into account.

PTM122000: Investments: shares and equities

A personal pension scheme doesn't have a sponsoring employer, therefore the 5%
limit that there is for occupational pension schemes doesn't apply.

Connected parties

Transactions between connected parties are not prohibited but if they do not take place on commercial, or 'arm’s length', terms, they are may give rise to an unauthorised payment. Where the transaction is done on a commercial basis and any valuations are made by suitably qualified valuers, this will reduce the chance that the transaction will be an unauthorised payment with the consequent tax charges. 

PTM027000:General principles: connected persons

A company is connected with a person if that person has control of it, or if that person and the persons connected with him together have control of it.

In relation to an occupational pension scheme this means the employer, whose employees benefit from the scheme.

This is a normal commercial transaction that is done at the market rate between two or more parties.

Any transaction between connected parties has to be made at an arms length. If it's not done at arms length and as a result of this the member financially benefits the difference between the actual value and the arms length value will be taxed as an unauthorised payment. Scheme trustees should ensure that when a connected party transaction happens that they obtain an independent valuation and ensure that the market value is paid.

Other considerations

HMRC has stated that any non-commercial use of an asset by a member or an associate of a member will create an unauthorised payment charge on the member.

Where an unauthorised payment is made to a member or an employer the tax charge will be 40% of the amount of the unauthorised payment.

The scheme administrator will be liable to a scheme sanction charge on all charges except where the assets used to provide the benefit is not a wasting asset. The amount of the scheme sanction charge is 40% of the scheme chargeable payment. 

However where the member or sponsoring employer has been subject to an unauthorised payments charge and has paid the tax due, a deduction will be made to the amount of the scheme sanction charge.
The amount of the deduction is the lesser of:

  • 25% of the amount of the scheme chargeable payment, and
  • the actual amount of tax paid by the member or employer on an unauthorised payment.

Note

The information provided is based on our current understanding of the relevant legislation and regulations and may be subject to alteration as a result of changes in legislation or practice. Also it may not reflect the options available under a specific product which may not be as wide as legislations and regulations allow.

All references to taxation are based on our understanding of current taxation law and practice and may be affected by future changes in legislation and the individual circumstances of the investor.

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Last updated: 28 Mar 2019

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The Royal London Mutual Insurance Society Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The firm is on the Financial Services Register, registration number 117672. It provides life assurance and pensions. Registered in England and Wales number 99064. Registered office: 55 Gracechurch Street, London, EC3V 0RL.