Rex Cowley, Head of Marketing & Products, and Mike Lightfoot, Director of Pensions, Close International
The ink is barely dry on the Isle of Man’s Income Tax (Pensions) (Temporary Taxation) Order 2010 - Rex Cowley and Mike Lightfoot of Close International examine the impact the Order will have on the QROPS market.
With a market value of circa £575 billion it is not surprising to see offshore financial centres competing fiercely for the spoils that QROPS (Qualifying Recognised Overseas Pensions Scheme) offer.
However, the path to such wealth has not been plain sailing and QROPS has been courted by much controversy. Blacklisted jurisdictions, frozen or disqualified schemes, and unforeseen personal tax liabilities have left many a red faced advisor and financially worse off customers.
That said, there are many clients who have benefited significantly from QROPS (and latterly QNUPS) where care is taken to deliver compliant and well structured products from secure and well regulated jurisdictions. To date, it can be argued, Guernsey in particular has led the charge in the jurisdictional stakes; focusing on compliance with HMRC rules and best practice. Guernsey’s Income Tax Authority has played a key role in shaping this through open dialogue with HMRC. In addition the Guernsey Association of Pension Providers (GAPP) has also had significant influence in defining best practice and protecting the Island's international reputation. But this dominance is now being challenged following pension reforms in the Isle of Man.
Tynwald, the Manx Parliament, approved the Income Tax (Pensions) (Temporary Taxation) Order 2010 at its sitting of the 19 October 2010 and the Order came into effect on the 22 October 2010.
The new Order was made by the Treasury under section 15 of the Income Tax Act 1995, which amends the Income Tax Act 1970, thus allowing section 50c to be inserted. This will have far reaching implications for those wishing to offer pension schemes to individuals or corporates from the Isle of Man.
Originally, the objective behind changing the Manx legislation was to put the Isle of Man on par with Guernsey in so far as not taxing pension benefits for non residents (albeit, each jurisdiction has its own set of unique advantages). However, now the Order has been published it is clear that the Isle of Man has chosen a slightly different path. So with the ink still drying on the changes, this article examines the key changes and potential implications of the Order, whilst also providing a comparison with Guernsey.
It must be stressed that as it stands the Order is brief and quite subtly written and there will likely be more to it than meets the eye at first glance. However, its impact can only be favourable in relation to the QROPS market.
Tax exemption and a new bit of jargon; what is 50C?
Within the Income Tax (Pensions) (Temporary Taxation) Order 2010, the Isle of Man appears to have created an alternative way of establishing a Manx pension scheme. Instead of simply extending its existing domestic tax approval regime to better accommodate non-domestic applications (ie, QROPS or QNUPS) as other centres have done, the Isle of Man has actually given the offshore trustee or administrator a platform to enable them to decide how they position their scheme, by creating a new tax exemption status for schemes which possess certain characteristics (a third-way if you like).
The similarity with Guernsey is the way in which Guernsey’s 157A approval and 40ee exemption criteria interact in relation to non-Guernsey residents, and schemes established under 50C similarly appear to exempt non-resident scheme members from Manx income tax. This removes the biggest barrier the Isle of Man has until now faced and pension benefits should be able to be paid gross of any Manx income tax, putting the Island on a par with Guernsey when it comes to tax on pension benefits.
The exemption approval criteria
The conditions for 'approval' under 50C are a significant step for QROPS as the new legislation incorporates many of HMRC’s QROPS qualifying criteria within it. This robust approach should mitigate the Isle of Man from any Singapore style blacklisting risks as it forces product providers to comply by imposing hefty unauthorised payment penalties that fall upon the scheme administrator.
This could be seen as an advantage over Guernsey where compliance with QROPS is still at the hands of the individual product provider.
The following conditions must be met by a 50C scheme where the scheme is a personal pension scheme:
Unauthorised payments and supplementary charges
The Order specifically addresses the issue of ‘unauthorised payments’, which have been at the heart of much controversy as certain providers in certain jurisdictions have allowed anything from accelerated benefit payment to full scheme encashment.
The new Manx legislation states: “Any payment made out of funds which are or have been held for the purposes of a scheme approved under section 50C(2) to or for the benefit of a person and which is not expressly authorised by the rules of the scheme shall be an unauthorised payment and shall be chargeable to income tax on the member in the year of assessment in which the payment is made”.
In addition to the income tax charge if an unauthorised payment is made, the member will be liable to a supplementary charge of 20 per cent of the unauthorised payment’s value.
Moreover the liability for collecting and paying any tax or supplementary charge rests with the administrator.
This in itself appears to be a strong lever to further ensure compliance with the Manx legislation; and of course compliance with the scheme rules, as these are submitted to HMRC, are fundamental to its continued recognition in relation to QROPS. However, it may also be argued that this places the administrator at a disadvantage to somewhere like Guernsey and this extra administrative burden could potentially dissuade new start ups or products in the Isle of Man. This may, of course, be what the Manx tax authorities want as it places existing Manx providers at an advantage.
Similar to Guernsey the minimum benefit age for a 50C scheme is 55, but with provision for earlier payment if the member becomes incapacitated through infirmity of body or mind and is unable to carry on their own occupation or any occupation of a similar nature for which the member is trained.
In addition there are no restrictions in the kind of benefit which can be paid, hence product providers will have a wide array of options in the way in which pension benefit can be paid, for example lump sum or sums, annuity, drawdown or a mix.
Guernsey legislation offers similar flexibility but restricts lump sum payments to 25 per cent of the member’s total scheme (although this is expected to rise to 30 per cent by the end of the year), whereas Manx legislation requires at least 70 per cent of the members tax-relieved fund to be used for an income for life. The latter may favour non QROPS scheme structuring or facilitate more flexible offshore schemes from the Isle of Man as the Guernsey 157A rules apply a similar restriction but effectively to both UK tax relieved and non relieved contributions.
Tax treatment on member’s death
Within the Order an amendment to the Income Tax (Retirement Benefit Schemes) Act 1978 has been made with apparent implications on the commutation of a scheme after death. Under the amended legislation a charge to tax on commutation of some or all of an employee’s pension is applicable after death and is charged at 7.5 per cent. Similar changes also apply to domestic personal schemes approved under the Income Tax Act 1989; however, on first reading there appears to be no interaction between the above and 50C schemes.
To conclude, this article aims to give an initial insight to a far more complex topic. Many questions are left unanswered and clarity is needed on aspects, such as transfers from existing Manx schemes. It is also unknown if any application has been made to HMRC under the new legislation for QROPS, although we suspect this is highly likely.
However, what the new Order does not do is alter the very robust Manx regulatory regime for pensions under its Insurance & Pensions Authority (IPA), which remains 'as is', and it would seem that an administrator is free to decide whether to be regulated as either a domestic or international scheme (which may have advantages for non-QROPS business). It is this regulatory overview that would seem to be what the Isle of Man government perceives as the Island's USP.
It also shows that some of the deficiencies around withholding tax on pension benefits have been removed, not by tweaking the existing domestic regime but through the creation of an alternative pension structure for QROPS and QNUPS. However, the administration of 50C schemes is clearly more onerous given the administrator’s responsibility, and liability on the collection of tax on unauthorised payments and supplementary charges.
That said, with this Order the Isle of Man has proved that the QROPS market is maturing and that there remain many valid tangible reasons for undertaking a QROPS transfer, and with over 8,000 QROPS transfers already completed its encouraging that they, like us, see that QROPS is here to stay as a mainstream financial product.
The Isle of Man is also banking on its belief that a regulated solution is perceived as being attractive to consumers and therefore it appears not to have deliberately changed its pensions regulatory framework, just expanded the tax approval system that sits behind this to provide more flexibility.
Choice is important as there are so many QROPS jurisdictions out there and having been perceived as potentially missing the boat to other offshore centres in the early years of QROPS, this is a very subtle yet proactive attempt to differentiate the Isle of Man in a rapidly changing marketplace. The fact that new options exist can only be good for consumers.
The Isle of Man has also shown that a ‘third-way’ solution is perhaps more future proofed than constantly seeking to adapt a domestic pensions system in response to changes instigated outside of that jurisdiction.
As for which jurisdiction will become the most sought after jurisdiction for QROPS, well that will ultimately be determined by clients and given the challenges facing world economies and social benefit systems, the race is only likely to hot up.
Rex Cowley, Head of Marketing & Products, and Mike Lightfoot, Director of Pensions, Close International