HMRC has provided further clarity on the tax position when refunding a defined benefit (DB) pension scheme surplus to employers, confirming that the 25 per cent tax payable is based on the surplus within the pension scheme.

The position to date has been unclear, with different interpretations of the tax rules founded on the whether the 25 per cent tax rate is applied to the refund amount received by the sponsor or applied to the surplus in the pension scheme before deduction of tax.

However, HMRC’s latest Pension Schemes Newsletter confirmed that this charge arises on the value of the gross amount of the authorised surplus payment and not the amount received by the sponsoring employer on the refund of surplus.

HMRC also confirmed that it will update the guidance included in the Pensions Tax Manual at PTM145200 with examples to reflect this.

Analysis by LCP suggested that this clarification of the rules could bring in an extra £10bn of tax for HMRC over the short to medium term, with more to follow as pension schemes run-on and seek to grow surplus further.

Whilst there may be additional tax to pay, LCP argued that the end of the ambiguity will mean pension scheme sponsors and trustees can now plan pensions endgame strategies with greater clarity on this position and a better understanding of the potential financial upsides for various stakeholders.

LCP partner and head of endgame innovation, Jonathan Griffith, said “As more schemes run-on and seek to grow surplus for the benefit of members and other stakeholders, it is helpful that there is now clarity within the tax rules.

“We eagerly await the government’s response to the consultation on 'options for DB schemes' and the Mansion House proposals as these proposals have the potential to make it more efficient for sponsors to run schemes on, share surplus with members, and support the government’s positive investment agenda.”

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