Pensions Bulletin 2016/46

Office of Tax Simplification calls for “simpler and fairer” NIC system

The Office of Tax Simplification has again called for radical changes to the national insurance system, stating in its latest report that NICs and income tax should be brought closer together to create a simpler and fairer system for business and taxpayers.

The OTS suggests two high-level changes should be made:

• Calculate employees’ NICs in the same way as PAYE income tax. This means that NICs would no longer be calculated separately on each pay packet from each job, but on a tax year basis taking all jobs together with one NIC free allowance split between them. The OTS refers to this as an “annual, cumulative and aggregate” (ACA) method. This change would, of course, affect millions of employees – the OTS estimates that it could result in 5.5m employees paying more NICs and 7.6m employees paying less. However, it would ensure that individuals earning the same amount overall will pay the same NICs, regardless of how their income is earned through the year, which is not the case now. The OTS also believes that it would be broadly cost neutral for the Exchequer
• Calculate employers’ NICs on the total cost of an employer’s payroll, with no NIC free allowance, but at a lower rate of tax instead. The OTS believes this would be less complicated for employers to administer and has proposed eight possible options for this with a ninth more radical possibility. In outline the main options are:
  • a simple flat rate payroll levy, with no employer’s secondary threshold, but in four different ways and incorporating different employment allowances
  • replacing the employer’s secondary threshold with a cumulative annual employee allowance per employment
  • link to a specified percentage of employee NICs
  • retain the existing system; or
  • replace the secondary threshold with a full-time equivalent employee allowance

The OTS dismisses the simplest of the first of the options (a 10% levy with no allowances) due to the disproportionate effect this would have on those employing low paid or part-time workers. It considers the best of the other options is to replace the employee threshold with a cumulative annual employee allowance per employer. However, each option has a materially different impact across different sizes of employer and business sector so the OTS wants a broad debate about this.

This latest report and summary builds on the OTS’s previous report published in March.

Comment

This is a very interesting, albeit lengthy paper. As far as pensions are concerned, the OTS’s proposed changes to NICs should not directly affect workplace pension initiatives such as auto-enrolment. However, if the proposed approach for employee NICs is adopted, DWP research suggests that around 50,000 people with concurrent low paid jobs would trigger a qualifying year for the State Pension as aggregation of earnings would take them above the Lower Earnings Limit.

Finally, the OTS has published this paper just ahead of the Autumn Statement. One wonders if the Chancellor will address this when he stands at the Dispatch Box next week.

FCA proposes “enhanced ISA” approach to regulating Lifetime ISAs

The Financial Conduct Authority has issued a consultation about its proposed approach to regulating the promotion and distribution of Lifetime ISAs.

The FCA is seeking to address the potential risks it has identified through an “enhanced ISA” approach by amending its Handbook requirements as they relate to ISAs in respect of communications, information disclosures, cancellation rights and client assets.

The FCA states that, unlike standard ISAs, “there are additional features of the LISA wrapper that mean some risks are attached to the wrapper and not the underlying investment”.

The FCA has identified five broad categories of risk and given some examples:

• Complexity. Example risk: Investors may not sufficiently understand the differences between the features of a pension and a Lifetime ISA in order to make informed decisions about the benefits and risks of each for their own circumstances
• Contributions. Example risk: Investors may lose out on an employer’s pension contribution if they opt out of a workplace pension in favour of saving in a Lifetime ISA
• Investments. Example risk: Investors will need to make investment decisions in line with their objectives and the investment strategies are likely to need to be different for saving for a deposit for a first home and saving for retirement
• Access. Example risk: Investors may not fully understand the impact of the early withdrawal charge and any additional charges that providers may levy
• Tax. Example risk: Investors may not be able to compare the Government bonus with tax relief on pensions and higher rate taxpayers may, therefore, not optimise their retirement savings from a tax perspective if they choose to invest in a Lifetime ISA rather than a pension

The FCA is concerned that investors may not understand the impact of the 5% early withdrawal charge and gives a simplified example showing that if a saver invests the maximum amount of £4,000 into a Lifetime ISA and receives a Government bonus of £1,000 but then withdraws all their assets after a year then the saver will lose £250 (assuming the Lifetime ISA does not earn any interest or investment growth during that year).

To address these risks the FCA proposes that:

• Investors in stocks and shares Lifetime ISAs should receive specific risk warnings in respect of:
  • Incurring the early withdrawal charge which may mean that they receive less than they paid in, and
  • Potentially losing an employer contribution to a workplace pension for which they may be eligible
• Investors in all Lifetime ISAs should receive the following information before opening:
  • An explanation of the key features and eligibility requirements
  • A clear explanation of the early withdrawal charge, including its level and when it would apply, and a warning that an investor incurring the charge may get back less than they have put in
  • A warning that if an individual opts out of a workplace pension for which they are eligible in favour of saving in a Lifetime ISA, they may lose out on an employer contribution to their retirement saving
  • The process for transferring a Lifetime ISA to another provider
• Cancellation timescales should be more generous than for standard ISAs. This is because the Lifetime ISA has restrictions on access through the early withdrawal charge until age 60, except in specified circumstances (purchase of first home or terminal illness)
• All money held within a Lifetime ISA must be held as “client money” under the FCA’s existing client money rules

The FCA also proposes that investors are given an indication of what they might get back at age 60 via a table to be included in the current point-of-sale disclosures. The purpose is to highlight the difference in outcome for different investment or saving returns. It will show how long-term savings can be eroded by inflation; this is intended to encourage investors to consider the investment options in line with their objectives and investment timescales. The table will also give information on charges – intended to help investors compare different Lifetime ISAs and allow them to make a comparison with charges on personal pensions.

This consultation comes shortly after draft regulations setting out details of the Lifetime ISA rules were published (see Pensions Bulletin 2016/44) and it closes on 25 January 2017.

Comment

Earlier in the week media reports suggested that FCA officials were “shocked” at the 5% early exit fee on Lifetime ISAs and that investors might have to pay for financial advice before starting saving in a Lifetime ISA. No such shock is evident in this consultation document and the financial advice aspect is not mentioned. The next step in the Lifetime ISA saga must surely be the Autumn Statement next week.

Restrictions on early exit charges for DC pensions confirmed

The Financial Conduct Authority and the DWP have responded to their consultations on early exit charges in May (see Pensions Bulletin 2016/22). Both are, by and large, implementing their proposals unadjusted.

So for contract-based DC schemes (ie those under the FCA’s authority), in summary, with effect from 31 March 2017, early exit charges:

• Will be capped at 1% of the value of a member’s benefits being taken, converted or transferred from a scheme
• Cannot be increased in schemes that currently have early exit charges set at less than 1% of the member’s benefits under a scheme; and
• Cannot apply in schemes entered into after 31 March 2017

After consultation on regulations in early 2017, the DWP intends to act similarly to cap early exit charges in occupational pension schemes “for those members who wish to access the pension freedoms”; but from October 2017. The duty to comply is likely to be placed on the body that applies the charge in practice – so likely to be service providers in most cases. The Pensions Regulator will regulate compliance with the cap.

In addition to the above, the Treasury has made regulations that mean Market Value Adjustments will not be treated as early exit charges for the purpose of the cap on such charges in contract-based DC pensions.

The Financial Services and Markets Act 2000 (Early Exit Pension Charges) Regulations 2016 (SI 2016/1079) take effect from 31 March 2017 and follow on from the consultations in May, both of which acknowledged that MVAs should not be treated as exit charges and promised regulations to this effect (similar legislation will not be required for occupational pension schemes).

Comment

The Government has stated that the intention of introducing a cap on early exit charges is to remove a barrier to people accessing the pension freedoms introduced for DC pensions in the 2014 Budget. We are pleased the Government is trying to ensure a level playing field across all DC schemes, but we need to await the promised regulations applicable to occupational pension schemes to see if they deliver the policy intent.

Will the courts uphold the Pensions Regulator’s moral hazard powers?

This topical question is at the centre of the Box Clever legal saga (see Pensions Bulletin 2015/15) where the Pensions Regulator’s attempt to issue a “financial support direction” (FSD) against (what is now) the ITV television companies has been challenged. An FSD, as its name suggests, is a regulatory action which forces a target organisation to provide financial support to a DB pension scheme.

The latest instalment has now been reported. The Upper Tribunal has again dismissed the application of the target companies in this litigation to have thrown out certain matters pleaded by the Pensions Regulator and the Box Clever scheme trustees.

A recap:

• Back in 2000 the Granada television company set up a joint venture – Box Clever – with Thorn for their ailing television rental companies. Granada received £510m in cash, financed by Box Clever borrowing £860m from a now defunct German landesbank. The vast majority of employees of the TV rental businesses were transferred to a new DB pension scheme and the borrowing was all secured against Box Clever’s assets. Box Clever became insolvent in 2003 and the pension scheme now has a deficit of about £90m, although it is unclear on what basis
• Sometime around 2006 the Pensions Regulator began to investigate and eventually on 30 September 2011 issued 96 page “Warning Notices” to the target companies indicating the intention to issue FSDs and the grounds for doing so. The Determinations Panel then issued a “Determination Notice” on 21 December 2011 stating that it would be reasonable to issue FSDs
• The targets then referred the determination to the Upper Tribunal which rejected their application to strike out some allegations that had been made in this action by the Regulator and the Trustees (who had now joined in) which were not in the original warning notices (and prior to this the targets unsuccessfully attempted to prevent the Trustees from joining in the action causing further delay). The targets then appealed to the Court of Appeal which gave some guidance on what constitutes “new” and referred the matter back to the Upper Tribunal

The Upper Tribunal has now dismissed the targets’ application to throw out the Regulator’s and Trustees’ allegations citing, amongst other things, that they would not be affected unfairly by allowing them.

The Upper Tribunal has still to rule on the substantive point as to whether it is reasonable (the legislation imposes this test) for FSDs to be issued.

Comment

We thought it worth setting out a potted history of this to illustrate how protracted the process is for the Pensions Regulator to exercise its “moral hazard” powers. Events that took place at the turn of the century were investigated in the middle of its first decade. Up against a deadline, the Regulator took regulatory action early in the second decade and has been tied up in the courts on administrative law points ever since.

Nor is the legal process anywhere near completed yet. As we note above the Upper Tribunal has yet to rule on the substantive question of whether it is reasonable to issue FSDs. If it does, given the legal strategy of attrition that appears to have been employed up till now, it would not at all be surprising if its decision is then appealed.

With Regulator enforcement powers much in the headlines now (see Pensions Bulletin 2016/45) this case illustrates how many legal obstacles there can be to exercising them. But perhaps not insurmountable obstacles and we may yet see moves to streamline the process in the Green Paper looking at DB pensions regulation expected this winter.

This Pensions Bulletin does not constitute advice, nor should it be taken as an authoritative statement of the law. For further help, please contact David Everett at our London office or the partner who normally advises you.