Customs and Revenue Brief 8 (2015) is the latest development in the convoluted story of VAT treatment of administration and investment management costs and pension schemes. HMRC’s proposal for tripartite agreements meeting certain criteria could be a significant concession for defined benefit (DB) schemes. There have been a few twists and turns in the story.
Until recently HMRC’s policy on VAT recovery for pension schemes was as set out in VAT Notice 700/17 (which remains in force until 31 December 2015). Employers can deduct VAT incurred in establishing a pension scheme and in the day-to-day administration of the scheme but employers cannot deduct VAT incurred on investment management services provided to the scheme. However, if a third party service provider provides both administrative and investment services to the pension scheme and issues a single invoice for these services, HMRC practice has been to allow employers to obtain a VAT deduction for 30 per cent of the invoice (the 30 / 70 split).
The distinction between administration and investment management services for VAT was rejected by the ECJ in PPG Holdings1. PPG Holdings was a Dutch company that tried to recover VAT incurred on the cost of administrative and investment management services provided to its DB pension schemes. In that case the ECJ held that PPG was entitled to deduct the VAT incurred by it in relation to both the administrative and investment management services provided that there was a direct and immediate link between the services and its own taxable supplies.
Following PPG Holdings, in Brief 43 (2014): VAT on pension fund management costs, HMRC acknowledged that that there are no grounds to differentiate between the administration of a pension scheme and the management of its assets, and that input tax deduction is available for both administration and management services. However it states that it will only be available where the employer is the recipient of the supply and where the employer has paid for and is a party to the contract for the services provided. As the trustees are solely responsible for investment of pension scheme assets and therefore presumably the only possible recipient of the investment management services, Brief 43 (2014) appeared to be a curtailment of an employer’s ability to deduct any input tax at all, including VAT incurred on administrative services (particularly so given that the automatic 30 / 70 split will no longer apply from 1 January 2016).
Brief 8 (2015) is therefore a positive step from an employer’s perspective, as the text of the Brief suggests that HMRC has developed a more informed understanding of the pensions law issues at play for employers trying to satisfy the requirements of Brief 43 (2014). In this regard, it is notable that HMRC states that:
“However, because benefits arising from DB pension schemes often form a central part of the sponsoring employer’s staff remuneration package and the employer carries the ultimate burden of ensuring that there are sufficient funds with which to pay the promised benefits all such services benefit the sponsoring employer as well as the pension scheme. This gives rise to the unique nature of DB pension provision and is a key factor in determining the recipient of the services supplied.”
It seems that HMRC is sympathetic to the position of employers with DB pension schemes and is trying to make tripartite agreements workable as a way for employers to recover VAT incurred on fund management services. HMRC accepts that a tripartite contract can be used by an employer in order to deduct VAT incurred on these services, where at a minimum the contract with the service provider evidences that:
- the service provider makes its supplies to the employer (albeit that the contract may recognise that, in the particular regulatory context in which DB schemes operate, the service provider may be appointed by, or on behalf of, the pension scheme trustees);
- the employer directly pays for the services that are supplied under the contract;
- the service provider will pursue the employer for payment and only in circumstances where the employer is unlikely to pay (for example, because it has gone into administration) will it recover its fees from the scheme’s funds or the pension scheme trustees;
- both the employer and the pension scheme trustees are entitled to seek legal redress in the event of breach of contract, albeit that the liability of the service provider need not be any greater than if the contract were with the pension scheme trustees alone and any restitution, indemnity or settlement payments for which the service provider becomes liable may be payable in whole to the pension scheme trustees for the benefit of the pension scheme (for example, in circumstance where the scheme is not fully funded);
- the service provider will provide fund performance reports to the employer on request (subject to the pension scheme trustees being able to stipulate that reports are withheld, for example where there could be a conflict of interest); and
- the employer is entitled to terminate the contract, although that may be subject to a condition that they should not do so without the pension scheme trustees prior written consent (this can be in addition to any right that the pension scheme trustees may have to terminate the contract unilaterally).
HMRC makes clear that Brief 8 (2015) only relates to pension fund management services provided to DB pension schemes. The Brief states that further guidance is imminent on the VAT treatment for the provision of other services (e.g. legal or actuarial services), and on specific issues such as the use of VAT groups that include a corporate trustee.
Employers should start to think about taking specialist tax and pensions law advice in order to optimise their VAT recovery on administrative and fund management services through the use of tripartite agreements. Notwithstanding HMRC’s apparent sympathy towards the unique position of pension scheme employers, there remains a fundamental difficulty in presenting the employer as the actual recipient of the management services and the ability to recover VAT incurred on management services may depend on the attitude of HMRC going forward.
Position for DC schemes
A second ECJ decision in 2014 relating to VAT and pension schemes considered the availability of a VAT exemption for the management of defined contribution (DC) pension schemes under Council Directive 2006/11/EC (on the common system of value added tax).
In the case of ATP Pension Services2, the ECJ held that a pension fund which pooled investments from a number of defined contribution occupational pension schemes qualified as a “special investment fund” (SIF) under Article 131(1) (g) of the Directive so as to qualify for the VAT exemption available for the “management of SIFs”.
In Brief 44 (2014): VAT treatment of pension fund management services HMRC accepted that DC pension schemes (and personal pension schemes) are SIFs for the purposes of the EU fund management VAT exemption provided that the schemes have certain characteristics (as set out in the Brief).
Summary of VAT treatment:
- Investment management services supplied to DC schemes are exempt from VAT provided the scheme possesses the requisite characteristics laid down in Brief 44 (2014).
- Investment management services supplied to DB schemes are not exempt from VAT. Until 31 December 2015 the 30/70 split applies; thereafter, the employer may recover VAT provided that the employer is the recipient of the service, pays for the service, and it is a party to the contract for the service (for example, under a tripartite agreement).