Much has been written on the benefits for employees of transferring shares from a Savings-Related Share Option plan or a Share Incentive Pla...

Much has been written on the benefits for employees of transferring shares from a Savings-Related Share Option plan or a Share Incentive Plan into a pension scheme. In this article David Tuch at Deloitte & Touche LLP takes a dispassionate look at the issue considering both the advantages and disadvantages.

Background
From 1 January 1992 it was possible to transfer shares acquired under an HMRC approved all-employee share scheme into a single company personal equity plan without incurring a charge to capital gains tax.

When personal equity plans were replaced with individual savings accounts it became possible to transfer such shares to an ISA within 90 days of their being acquired, again without crystallising a charge to CGT. Following the introduction of the Share Incentive Plan (“SIP” – not to be confused with a SIPP which stands for Self-Administered Personal Pension), which effectively replaced the profit-sharing scheme, this relief was extended to shares coming out of the SIP trust.

In practice, however, relatively few people have taken advantage of these facilities even though it does give them the ability to shelter future gains from CGT and, in the case of ISAs, to diversify their investment in a tax-efficient manner.

Similarly it has been possible since 5 April 2001 for shares acquired under a savings-related share option plan (SAYE plan) or a SIP to be transferred into a personal pension plan (including a stakeholder pension plan) without incurring a charge to CGT.

Finally, with effect from 6 April 2006 (A-Day), transfers from SAYE or SIP to any “registered” pension scheme are allowed without triggering a charge to CGT.

PEPs and ISAs
Although lots of companies set up single company PEPs to run alongside SAYE plans this was not a feature that significant number of employees took advantage of.

This might have been because the majority of SAYE participants that did not sell all their shares immediately following exercise were probably able to take advantage of annual exemptions/transfers to spouses to minimise future CGT liabilities. However, the advent of the ISA allowed participants to diversify in a tax-free environment and therefore one might have thought that this would prove more popular.

Anecdotal evidence suggests that this was not the case. This might be because participants would have had to set up their own ISA, rather than as was the case with many of the single company PEPs which were sponsored by the company itself.

Alternatively it might be because if individuals wanted to diversify they would simply sell their shares immediately following exercise (which in many cases would be tax free anyway due to the size of the gain) and then reinvest the money in something more diversified in nature. Another factor against transferring shares to both single company PEPs and now ISAs are the limits (ÂŁ3,000 for the PEP and, currently, ÂŁ7,000 for the ISA).

Notwithstanding this there is clearly still a role for a transfer of shares from an SAYE plan to an ISA particularly where the option holder was looking to shelter a gain in excess of the CGT annual exemption.

We are only just beginning to see shares reach the end of the five year period in SIPs (after which they can be removed tax free) so it is probably too early to say whether transfers from SIPs to ISAs will prove popular. Unless an individual wanted to diversify or was leaving employment and hence needed to take his shares out of the SIP it is difficult to see what the attraction of such a transfer would be as the shares could be left to grow free of tax within the SIP.

Pension Plans
Unlike transfers to PEPs and then ISAs, transferring shares to pension plans are said to have an additional attraction – income tax relief on the value of the shares transferred. However, although transfers of shares to personal pension plans have been possible since 2001, it is only recently that this opportunity appears to have been actively promoted.

Ignoring the very real commercial difference between transferring shares to an ISA and transferring them to a personal pension plan (i.e. once shares are transferred into a pension plan they simply form part of the funds in the pension plan and hence are subject to all of the rules and restrictions which apply to these assets), the difference from a tax perspective which has been picked up on is that income tax relief is available for funds (which in this case includes shares) which are invested in a personal pension plan.

SIP to Pension Plan
Hence, in the case of Partnership Shares coming out of a SIP, the suggestion is that individuals are able to get two lots of income tax relief – first when they acquire the Partnership Shares from gross salary and second when they get income tax relief on the value of Partnership Shares they transfer to the pension plan.

However, it is important that people understand that the tax relief they get on transferring the shares out of the SIP and into the pension plan is exactly the same as they would get if they were to either sell the shares from the SIP (tax free of course) and then reinvest the cash into the pension plan or if they were to invest some cash they already had. It is simply the normal tax relief available for making a contribution to a pension plan.

Also, care needs to be taken when looking at numerical examples which seek to compare the position of an individual who transfers shares to a pension plan with other actions they could take. It is important not to assume (for higher rate taxpayers) that the value of the assets transferred into the pension plan is grossed up by 40 per cent.

Rather, the contribution is treated like a cash contribution, such that the trustees can only reclaim income tax at 22 per cent. The remaining relief of 18 per cent needs to be reclaimed by the individual via their self assessment tax return.

This amount does not form part of the pension funds (unless the individual makes a further contribution on which, of course, further relief is available).

However, if the employer operates a salary sacrifice plan then the pension fund can receive the full 40 per cent relief if the employee does a salary sacrifice and then sells sufficient of his SIP shares to replace the cash foregone as a result of the salary sacrifice.

A salary sacrifice, as is well known, carries the additional benefit of saving national insurance contributions.

The other issue that individuals have needed to consider before making contributions to a personal pension plan is whether, if they have decided they want to increase their contributions to their pension arrangements, this is the best route to take. In particular, many companies now offer defined contribution pension plans under which the company matches the contribution made by the employee (up to a certain level).

Such arrangements are typically not extended to where the employee contributes to a personal pension plan. Therefore if an individual had decided to take their shares out of the SIP and invest in a pension the best result is likely to result from them selling the SIP shares and making a contribution (which the company matches) into the company sponsored pension plan.

From 6 April 2006 it should be possible to make transfers of shares from a SIP directly into a company-sponsored pension plan (provided of course that the rules of the plan allow for this) in which case the company match could be obtained on the transfer of shares without the need to sell them and reinvest the proceeds.

SAYE to Pension Plan
Turning to shares coming out of SAYE plans, much of what has been said above in relation to SIPs will apply.

However, the word of caution here is to avoid falling into the trap of believing that it might be worth exercising an out-of-the-money SAYE option simply to be able to take advantage of the ability to transfer the resulting shares to a pension plan and then get tax relief on this transfer, the logic being that the additional tax relief more than compensates for the “loss” made on the exercise of the option.

This approach would be fine if transfers for shares in this way were allowed once the normal limit on contributions to pension plans had been reached and the individual wanted to make additional contributions.

However, as the normal limits on contributions to pension plans continue to apply to these contributions, this approach is illogical. Rather than exercising the SAYE option at a loss and then transferring the shares to the pension plan the employee would always be better off not exercising the option and instead using the proceeds from the savings contract to invest in the pension.

Conclusion
There is no doubt that for some people the ability to transfer shares from an SAYE plan or a SIP to an ISA or a pension plan is good news.

What is less clear is that this is an opportunity that should be actively marketed to participants in these plans, other than with great care. Companies rightly do not wish to give investment advice to their employees and it is rarely advisable to do something just because there is a tax break available.

For some companies there may well be attractions in marketing the potential link but great care should be taken in how such opportunities are communicated to employees.