Investing your employer pension contributions

Your company has accumulated sizeable profits and you and your fellow directors are looking for a tax-efficient way to take them. Someone has suggested buying a share of the company’s premises. Is it something worth considering?

Employer pension contributions

As a tax-efficient method of extracting profit from your company, employer pension contributions tick most of the boxes – as long as you’re prepared to wait until you’re 55 to get your hands on the loot. No tax or NI has to be accounted for on the money your company pays into your fund and the investments grow in a tax-free environment.

Further tax breaks

Employer contributions are not only a tax-free benefit in kind for you, but unlike the payment of dividends by your company, they are tax deducible from its profits. The advantages don’t end there. When you reach 55 you can take 25% of your pension fund tax free. This all sounds very good, but you might be able to do better.

Tip: A further tax-efficient twist to the arrangement might be possible if your business owns the freehold or long lease on its premises.

Bricks and mortar

You and your fellow directors can use the employer pension contributions to buy all or part of your company’s trading premises. The pension fund can then lease the building back to your company at a market rate rent. The rent counts as a tax-deductible expense for the company, but your pension fund is exempt from paying tax on the rent it receives. Transferring the property from ownership by your company to your pension fund creates another tax-free way to extract income from the business.

Trap: The arrangement is not entirely tax free. If at the time the property is transferred to your pension it’s worth more than your company paid for it, your company might have to pay corporation tax (CT) on the difference.

Example: Your company bought the freehold of its trading premises in 2001 for £150,000 and in April 2016 sells it to your pension fund for £260,000. Therefore, the gain on which CT is payable is £100,000. A deduction of £78,000 is allowed to account for the effects of inflation (this is known as indexation) leaving a taxable gain of just £32,000 on which the CT payable is £6,400.

The big picture

Selling a property and triggering a CT bill might not appeal to you, but in practice it’s unlikely that there will be any extra tax for your company to pay. This is because it’s entitled to tax relief on the pension contributions it makes to pay for the property purchase.

Example: Assuming the facts are the same as in the first example, to fund the purchase of the property your company makes employer contributions of £70,000 each for you and your three fellow directors – £280,000 in all. This provides enough to cover the property purchase price, plus stamp duty land tax and other expenses, e.g. valuation and legal costs. Your company will receive CT relief of £56,000 (£280,000 x 20%). This will wipe out the £6,400 tax payable on the sale of the building and the balance will reduce the company’s normal CT bill.

Get advice: If you think that this scheme might work for you, the first step is to speak to your financial advisor or pension plan provider.

Using employer pension contributions to fund the purchase can be very tax efficient. Your company receives a tax deduction for the contributions. The rent it pays to your pension fund for use of the property is tax deductible, but the rent your pension fund receives is tax exempt as is growth in value of the property.