Home > News > 2002 > September 2002 > Loans within Small Self-Administered Pension Schemes
Loans within Small Self-Administered Pension Schemes
One of the major attractions of Small Self-Administered Schemes (SSAS) is the ability of the Trustees - usually the Directors of the Sponsoring Company - to make their own investment decisions. This provides ongoing flexibility and control over pension funding that is not normally available under insured pension arrangements. Investments such as equities, gilts, bank deposits, unit trusts and managed pension funds are generally acceptable and do not normally give rise to any problems - other than possible returns in the present market! If the Trustees decide to invest in these they do however need to have regard to liquidity requirements under the SSAS.
The facility for a SSAS to lend money back to the Company can provide an alternative and attractive investment opportunity. Interest payable by the Company will qualify for relief against Corporation Tax and the Directors will undoubtedly prefer the interest to be applied for their benefit within the SSAS - rather than paid to the Bank!
Specific Inland Revenue Regulations do however apply to loans made from a SSAS. The major restrictions concern the amount that can be advanced and the use to which the money can be put within the Company.
The Regulations regarding the maximum loan are somewhat complicated although, basically, no more than 50% of the Net Asset Value of the SSAS may be lent at any time once the SSAS has been in force for two years.
Any loan made to the Company must be utilised to assist with the development of its business. Loans for the sole purpose of helping the Company's 'cash flow' are definitely not acceptable.
So what are the areas of concern and what action can be taken to ensure that the attractive facility of a SSAS loan can be utilised within the guidelines?
First of all, the Inland Revenue is becoming increasingly concerned with regard to the number of loans which cannot be repaid for one reason or another and do not accept that a SSAS can "build up into a private bank that will always say yes!" Additional Regulations are awaited but the following thoughts may assist SSAS Trustees to avoid loans that are considered 'injudicious' by the Inland Revenue - that is where money is advanced to a Company that is in a weak financial position at the time the loan is made.
SSAS Trustees are usually not only the members of the SSAS but also Directors of the Sponsoring Company. This can potentially give rise to conflict, although the over-riding consideration should be that, as a Trustee, they have a duty to ensure as far as they can that any loan made is a prudent investment at the time the money is advanced. Before making a loan, the Trustees should therefore satisfy themselves that the Company's financial position is healthy. This 'health check' should be on the basis of information available at the time the loan is made and should demonstrate that the Company will be able to service the loan interest and repay the capital in accordance with the formal agreement that is required.
The most recent trading accounts of the Company and any subsequent management accounts should therefore be the first port of call. If these accounts indicate that the Company is profitable with assets in excess of liabilities, then the Trustees may normally be satisfied that the loan is a secure and prudent investment. However, if the accounts do not demonstrate this financial strength, then it is extremely likely that the Inland Revenue would consider any loan as 'injudicious'.
A good 'rule of thumb' is - would the SSAS Trustees lend the same amount on the same terms to an unconnected party of comparable standing?
The Inland Revenue do accept that it is not possible to guarantee that a loan will always be repaid - even banks cannot do this! Banks do however tend to lend money on a secured basis and this is perhaps something that SSAS Trustees should consider, especially where the amount advanced is the maximum allowable proportion of the total SSAS assets. Security in these circumstances would usually be in the form of a Second Charge Debenture against the Company's fixed and floating assets and would undoubtedly stand behind the Bank's First Charge for any lending to the Company. It may be debatable in these circumstances whether the security has any major value but the existence of a Charge does help to demonstrate that the SSAS Trustees are taking their investment responsibilities seriously.
Again, a useful 'acid test' is - would the Company's own Bank lend the amount required? The Inland Revenue will seriously question a loan granted to a Company that has substantial borrowings from its Bank and where the Bank has refused additional credit.
Once a loan has been made to a financially sound Company, subsequent unforeseen developments can occur that mean the loan cannot be repaid in accordance with the terms of the formal agreement. In these cases, it is unlikely that the Inland Revenue would regard such loans as "injudicious" although they would expect the SSAS Trustees to pursue repayment of the loan in accordance with the terms of the agreement.
In the event of a loan failing, it is good practice for the SSAS Trustees to seek advice from and independent accountant or insolvency practitioner as to the best course of action to take to maximise recovery of the loan and any outstanding unpaid interest.
On the subject of loan interest, it is also essential that this is paid at least annually and on a regular basis and not merely accrued in the accounts of both the SSAS and the Company. Good practice could be for the Company to establish Standing Order payments to meet the interest obligation and also possibly regular capital repayments. Interest charged must be on a commercial basis and as a rule 3% over Base Rate for unsecured borrowings would be acceptable. Where security has been taken, the rate of interest can be lower to reflect the reduced risk and would usually be acceptable if it is in line with the interest that would have been charged by the Company's Bank in such circumstances.
In summary, provided that the SSAS Trustees check the Company is financially healthy before a loan is made and can demonstrate that they have no knowledge of subsequent problems that may cause a default on the loan then the Inland Revenue are unlikely to regard the loan as "injudicious". The regular payment of interest and capital and the arranging of security for the loan will all help to reinforce the SSAS Trustees case that a prudent investment has been made.
Loans from SSAS do continue to offer an attraction, not least in relation to the investment return that can be achieved if the loan is made on a sound basis. However, the position is likely to become more complex when the new Regulations come into force. It is therefore essential that SSAS Trustees take professional advice before investing in this manner.
SSAS loans - and other matters relevant to current pension provision - are to be addressed at a series of seminars our SSAS and SIPP teams are holding this Autumn. If you would like to attend one of these seminars click here for details or contact your usual Barnett Waddingham contact.
Barnett Waddingham, September 2002.