Employer Contributions Summary
- Complications can arise where the employer wishes to make substantial contributions for directors or key employees whose relevant earnings do not support such contributions.
- Contributions made by employers, to be an allowable expense, must be incurred wholly and exclusively for the purpose of the employer’s trade.
- In order to put up a robust defence to any potential HMRC challenge, it is of great value to be able to demonstrate that a pension contribution made by the employer is pursuant to a contractual obligation.
- Many directors of small or owner managed businesses do not have formal service agreements in place.
- Agreements are straight-forward to implement, and their existence is a potentially invaluable aid to ensuring that the contribution is treated as an allowable expense.
Implementing the Service Contract
There are two elements to this:
- Service Contract – Pension Element 1 (BIM46020 – Appendix) Reward Structure Contributions made as part of a salary sacrifice arrangement can, in certain circumstances, be treated as allowable. Thus, whilst contracts can be open to challenge if they are not seen as an accurate reflection of underlying arrangements, the Service Contract should specifically state that such an arrangement would be acceptable as part of the terms of employment. In order to structure the risk and reward aspect of the director’s remuneration it is also essential that a significant proportion of the reward is directly linked to the performance of the director and the profitability of the business. Thus bonuses (especially if linked to objective factors) can play an important part in this arrangement.
- Service Contract – Pension Element 2 (BIM46025 – Appendix) Funding The second element is the funding of a pension arrangement to the maximum allowable without triggering any unauthorised payment tax charges. Employers have always regarded affordability as one of the important factors in the funding of pension schemes. This has in almost all cases been on an informal and ad hoc basis. This served good purpose as the actuaries report determined the allowable status of the contribution. Now, however, this needs to be formalised. Thus the Service Agreement should also specify that the employer undertakes to fund the director’s benefits to the Lifetime Allowance as long as it is affordable.