There are five key tests that a loan from a Pension Scheme must satisfy to qualify as an authorised employer loan. If a loan fails to meet one or more of these tests an unauthorised payment charge will apply.
The five key tests are
- interest rates
- term of loan
- maximum amount of loan and
- repayment terms.
Security [S179, Sch 30]
If a registered pension scheme makes a loan to an employer the amount of the loan must be secured throughout the full term as a first charge on any asset either owned by the sponsoring employer, or some other person, which is of at least equal value to the face value of the loan including interest.
If the asset used as security is taxable property then there may be additional tax charges under the taxable property provisions if the registered pension scheme is an investment regulated pension scheme.
Taxable property consists of residential property and most tangible moveable assets. Residential property can be in the UK or elsewhere and is a building or structure, including associated land, that is used or suitable for use as a dwelling. Tangible moveable property are things that you can touch and move. It includes assets such as art, antiques, jewellery, fine wine, classic cars and yachts.
Interest Rates [S179, Sch 30]
All loans made by registered pension schemes to employers must charge interest at least equivalent to the rate specified in The Registered Pension Schemes (Prescribed Interest Rates for Authorised Employer Loans) Regulations 2005 (SI 2005/3449). This is to ensure that a commercial rate of interest is applied to the loan.
The minimum interest rate a scheme may charge is calculated by reference to 1% above the average of the base lending rates of the following 6 leading high street banks:
- The Bank of Scotland
- Barclays Bank plc
- HSBC plc
- Lloyds TSB plc
- National Westminster plc and
- The Royal Bank of Scotland plc.
The average rate calculated should be rounded up as necessary to the nearest multiple of ¼%.
Term of Loan [S179, Sch 30]
The repayment period of the loan must not be longer than 5 years from the date the loan was advanced. The total amount owing (including interest) must be repaid by the loan repayment date.
Maximum Amount of Loan [S179, Sch 30]
Section 179 (1)(a) of Finance Act 2004 restricts the amount of a loan which can be made to a sponsoring employer to 50% of the aggregate of the amount of the cash sums held and the net market value of the assets of the registered pension scheme valued immediately before the loan is made. These restrictions are necessary because although such loans provide a useful source of business funding, there may be liquidity problems for the scheme if there is a sudden requirement to provide scheme benefits. It may also not be prudent to lend scheme funds to one company.
Repayment Terms [S179, Sch 30]
All loans to employers must be repaid in equal instalments of capital and interest for each complete year of the loan, beginning on the date that the loan is made and ending on the last day of the following 12 month period – known as a loan year.
Often Land and Commercial Property are used as the security for Pension Scheme loans but the problem is having first charge over the asset!