Over the years, a Defined Benefit (DB) pension has become the cherished gold standard of pensions, offering a guaranteed income in retirement. As more and more schemes move towards a Defined Contribution arrangement, it’s vital to remember that DB schemes remain available, and they can offer flexibility and a wide range of benefits in certain cases.
One way that clients can benefit from this type of arrangement is to set up a Defined Benefit Small Self-Administered Scheme (SSAS). Here, we’ll look at how an SSAS works and how your clients can take advantage of these schemes.
Introduction to the Defined Benefit SSAS
Defined Benefit pensions benefit from a different set of rules to Defined Contribution schemes and can offer flexibility, particularly with regard to the lifetime allowance.
A Defined Benefit Small Self-Administered Scheme (SSAS) is a pension scheme that can be held by any limited company in the UK.
A SASS uses the flexible rules of a Defined Benefit scheme to assess the value of a pension and can be a useful retirement planning tool for your clients. It provides the flexibility of a traditional SSAS, but benefits are accumulated in the form of a guaranteed pension from the normal retirement age.
How a Defined Benefit SSAS works
Under this type of arrangement, the SSAS commits to providing the maximum permitted level of benefits. This could include:
- Benefits from age 60
- Maximum inflation-proofing of pension income
- Maximum dependent’s pension
Once your client has determined the benefits they wish to receive from their pension – often they will be encouraged to make these benefits as generous as possible – the administrator of the SSAS advises the client of the premium required to secure the requested level of pension.
The scheme actuary will calculate the contributions required to meet the benefits promised. A Defined Benefit SSAS will generally be funded on a cautious basis, and the contributions required may, therefore, be higher than would be possible in a Defined Contribution pension.
Here’s an example of how a DB SSAS could work.
Your client has an Annual Allowance of £40,000 in 2019/20. If they wanted to make a contribution to a Defined Contribution scheme, then the maximum amount their company could invest into their pension would be £40,000.
By using a DB SSAS, the Annual Allowance is first converted into its pension input Defined Benefit equivalent accrual. This is done by dividing the Annual Allowance (and any previously unused Annual Allowances) by 16.
The SSAS would then be funded for that level of pension from the client’s normal retirement date.
As a monetary figure, the actuarial cost of meeting any targeted Defined Benefit pension is typically between 2.5 and 3 times the available Annual Allowance. So, in this example, company contributions of around £100,000 to £120,000 could be invested in the pension. The individual should not be taxed on the premium passing to the SSAS.
And, if the client has unused allowances from previous tax years, then this figure could be even greater.
The advantages of using a Defined Benefit SSAS
There are four main advantages to using a Defined Benefit SASS:
- Contributions can exceed the Annual Allowance. The way that Defined Benefit scheme annual contributions are calculated is complex and based on annuity rates. However, it is common for the level of contributions required to secure the desired pension to exceed the Annual Allowance. This means that new scheme members can build up a large pension quickly. This can benefit older clients who need to build up a pension fund in a short period.
- Funds are pooled for multiple members. When more than one member is added to the same scheme the funds can be pooled to create one investable fund. The administrator of the pension monitors the value of the funds that each member owns and the value of each member’s fund.
- Pension surplus can be allocated. Any investment growth generated by the pooled fund sits inside the pension as ‘pension surplus’. The pension trustees can then allocate this surplus to whichever member requires the benefit. This also means that if one member’s pension is fully funded, the investment growth can be used to boost the pension of another member of the scheme.
- Contributions attract tax relief. As we saw above, the cost of building a Defined Benefit entitlement can be significant, especially if a cautious approach is used and the benefits are generous. One of the advantages of this type of scheme is that the pension contribution made by the business attracts tax relief.
Get in touch
If your clients need advice on their retirement planning, or they think that a Defined Benefit SSAS may be suitable for them or their business, please introduce them to us. They can email email@example.com or ask them to call us on 01454 416 653.