VAT on pensions fund management services: HMRC briefings

This article was produced by Nabarro LLP, which joined CMS on 1 May 2017.

Two decisions of the Court of Justice of the European Union (CJEU) cast doubt on the practice of HMRC in relation to the VAT treatment of pension scheme administration and management costs. HMRC has now issued two briefings, the first relating to both defined benefit (DB) and defined contribution (DC) schemes and the second to DC schemes only.

VAT on pension fund management costs

Prior to the CJEU decision in PPG in July 2013, HMRC practice was to allow employers to recover VAT incurred in relation to the administration of an occupational pension scheme but not in relation to investment management costs. The rationale being that the former had a direct and immediate link with the employer's business activities but the latter related solely to the activities of the pension scheme. In PPG the CJEU found that the employer could deduct VAT on costs it paid in relation both to administration and to investment management services provided there was a direct and immediate link between the services provided in relation to the pension scheme and the employer's business.

HMRC has now announced (in Brief 43 (2014)) that, in future, it will not differentiate between the administration of a pension scheme and the management of its assets. HMRC will only allow VAT incurred by an employer in relation to a pension scheme to be recovered where there is evidence that the services were provided to the employer and, crucially, the employer is a party to the contract for those services (and has in fact paid for them). In the past, effectively, where the invoice was addressed to the employer, then the VAT on administration (but not fund management) costs was recoverable by the employer. On the basis of Brief 43 this will no longer be the case and it may be necessary to review the contractual arrangements with all the trustee's advisers.

This could be problematic for trustees, as legislation requires them to appoint fund managers and other professional advisers in writing, on terms agreed by them. The employer has no formal role in the statutory appointment process, although there would be nothing preventing them being a joint signatory to the agreement. The issue trustees therefore need to consider is whether they are comfortable making the employer a party to their contracts of appointment.

Employers can, until 31 December 2015, continue with the current HMRC practice of applying a notional 70/30 split between fund management and scheme administration costs where a single VAT invoice has been issued to the pension fund. Alternatively, they can choose to adopt the new practice immediately.

Employers who satisfy the criteria outlined above and wish to claim retrospectively for VAT deductions may do so for periods up to four years before the date on which the claim is made.

VAT groups – a possible solution

Where a scheme has a corporate trustee which is within the same VAT group as the employer, the VAT on pension scheme investment management and administration fees can be recovered by the group at its usual recovery rate without any need for the employer to be a party to the pension scheme supplier contracts. In the past there were concerns that admitting a corporate trustee to the employer's VAT group could make the trustees liable for the VAT of the entire group. HMRC has issued VAT Notice 700/17 which confirms that any liability does not extend to the assets of the pension fund except to the extent the group VAT debt is attributable in whole or in part to the administration of the fund. However, this is an HMRC statement rather than a statutory provision. VAT grouping may also result in the VAT group having a less favourable VAT recovery position than the employer had as an individual taxable person. Trustees would need to take detailed advice on the risks and benefits of being in a VAT group. Schemes with individual trustees wishing to take advantage of this would need to replace their trustee structure with a corporate trustee.

VAT exemption for DC investment management and administration fees

Some eight months after the CJEU found in the ATP case that an investment fund which pooled investments from a number of defined contribution occupational pension schemes was exempt from VAT in relation to fund management services, HMRC has issued Brief 44 (2014) setting out its view.

The basis of the ATP decision was that the fund management services provided to the pension fund were services supplied to a "Special Investment Fund" (SIF). The provision of such services to a SIF are exempt from VAT under Article 135 of the EU VAT Directive. Prior to the ATP decision, HMRC had not considered pension funds to be SIFs and so had not allowed them to benefit from the relevant VAT exemption.

The key tests as to whether a particular fund is a SIF are:

• are they are solely funded by contributions made by or on behalf of members?
• does the member bear the investment risk?
• do the funds contain the pooled contributions of several members? and
• is the risk spread over a range of securities?

HMRC accepts that this includes the pooled assets not only of defined contribution occupational pension schemes but also could apply to some personal pension schemes which satisfy the above criteria. It may also include the defined contribution sections of hybrid schemes. Where investment management services are supplied to a scheme that has a number of funds, some which satisfy the requirements of a SIF and some which don't, then the VAT treatment will have to be split in accordance with existing HMRC guidance on multiple supplies.

The exemption applies to those fund management and administration services which are integral to the operation of the pension scheme – this could include administering member accounts as well as wider fund management services. It could be of assistance to some mastertrusts where the investments are unbundled.

HMRC has confirmed that UK legislation will be amended to reflect the ATP judgment but in the meantime schemes can rely directly on EU law. Claims for refunds can be made for periods up to four years before the date on which the claim is made. The HMRC briefing gives details of where claims arising from ATP should be sent.

In practice, the HMRC change following ATP may make little difference for most DC schemes (or schemes holding DC benefits). Most DC arrangements are set up as contracts of insurance with life insurers and as such already benefit from the insurance VAT exemption.