This article was first published in the third quarter 2016 edition of Personal Finance magazine.
About 40 000 South Africans have worked and accumulated wealth in foreign climes and returned home, while about 200 000 expatriates living in South Africa have overseas pensions. Many South Africans who worked abroad contributed to foreign retirement funds. Although these retirement assets continue to grow, it can be difficult to manage them from this country.
Most South Africans who worked abroad were employed in the United Kingdom, and many of the expatriates who have settled in South Africa are from the UK. In April 2006, Her Majesty’s Revenue and Customs (HMRC) introduced a list of pension schemes approved for use outside the UK, known as Qualified Recognised Overseas Pension Schemes, or Qrops, into which UK retirement savings can be transferred without paying tax of 55 percent.
Driven by European Union legislation that makes it easier to transfer pensions across countries, Qrops were created for Britons who want to take their pension pot and retire elsewhere. In the process, they have created an opportunity for fund members to receive a higher pension and pay less tax. Qrops essentially work like a South African retirement annuity (RA), with the difference that they allow you to draw down a pension after retirement.
Although they were introduced for relocating Brits, anyone who has worked in the UK and contributed to a retirement-savings vehicle there can transfer their savings to a Qrops. However, the following cannot be transferred to a Qrops:
* Capital that is generating a guaranteed pension – in other words, you have to transfer your savings to a Qrops before you buy a pension; and
* Money saved in a UK state pension fund.
You need to be older than 18 and under the age of 75 to transfer money to a Qrops without tax consequences.
Currently, 12 South African retirement schemes (saving and pension-providing) are registered as Qrops (see “South African Qrops”, below).
Louise Usher, the head of the high-net-worth segment at Momentum Retail, says South African residents with retirement savings in the UK have three choices: leave the money there, transfer it to a Qrops in South Africa, or transfer it to a Qrops in a tax-friendly jurisdiction.
The key requirement for a fund to register as a Qrops is that the rules of the Qrops correspond to the rules governing the authorised UK pension scheme from which the funds were transferred. For example, members must not be able to withdraw a cash lump sum or a pension from a Qrops before they turn 55.
HMRC says on its website that “tax relief was given (in the UK) to encourage saving to provide benefits in later life. Accessing benefits (directly or indirectly) before age 55 will result in a liability to UK tax charges in all but the most exceptional circumstances.” The exception to the rule is if you take early retirement because of ill-health. Last year, more than 1 600 Australian retirement funds lost their status as Qrops, because they allowed members to retire before 55. (Australian retirement funds allow early withdrawals in the event of financial hardship.)
If you, even mistakenly, transfer your UK retirement savings to a non-Qrops retirement fund, or to a Qrops that does not meet all the qualifying criteria, you could lose up to 55 percent of your retirement savings, because the UK tax authority will apply a penalty tax.
HMRC says on its website that it is your responsibility to check that the scheme to which you transfer your UK retirement savings is registered as a Qrops and meets the criteria. It warns that it will “usually pursue any UK tax charges (and interest for late payment) arising from transfers to overseas entities that do not meet the Qrops requirements, even when they appear on the HMRC’s list. This includes cases where taxpayers are overseas. HMRC will also charge penalties in appropriate cases.”
After Qrops were introduced, it did not take long for tax-friendly jurisdictions around the world to seize the opportunity to establish Qrops. It also wasn’t long before unscrupulous operators started to move in on the products.
Timothy Mertens, the chairman of the South African arm of Sovereign Trust, which provides Qrops trust services from the Channel island of Guernsey, says a minority of independent financial advisers with less-than-flattering reputations in the Qrops market have tarnished the image of these products.
For the past year or so, some operators have been trying to hard sell Qrops in South Africa. They seldom point out the advantages and disadvantages of leaving retirement savings in the UK or transferring them to South Africa, and they do not highlight that last year HMRC relaxed its rules so that people who retire overseas can exercise more control over their UK pensions. They also set low minimum investment amounts, which reputable advisers consider to be cost-inefficient. The rule of thumb is that you should have at least £100 000 to invest, to offset the costs against the tax saving achieved by transferring to a Qrop.
It is hard to find South African financial advisers who have expertise in Qrops, and it is even more difficult to find advisers here who understand the tax implications of leaving a pension in the UK or transferring it to another, more tax-friendly, jurisdiction.
Warren Ingram, an executive director of Galileo Capital and the 2011 Financial Planner of the Year, says Qrops have real benefits for UK expatriates and South Africans who have accumulated a pension in the UK.
“However, I am concerned about the product providers who are offering them. Having reviewed a few of the providers who have tried to convince me to use their products for clients, I feel that the providers I have seen have offered products with all the hallmarks of old-fashioned insurance-based investments. That means they are expensive, not really transparent and pay high commissions to agents or advisers.
“There are not many advisers who boast a wealth of experience with these investments. The training available from product providers on Qrops seems aimed at a very high level and is certainly not good enough for me to be convinced that I could properly advise a client who might benefit.”
He says the UK-based agents who fly into South Africa seem like typical commission-chasing salesmen, rather than proper advisers. For instance, none of the ones he has met has a financial planning qualification similar to the Certified Financial Planner accreditation of the Financial Planning Institute.
These concerns are echoed by Jeffrey Wiseman, the head of fiduciary services of Momentum Wealth, whose associated Momentum and Metropolitan companies provide two Qrops-registered RA products for individuals who want to transfer their retirement capital to South Africa. He says, as with many products, it is important to separate the structure from bad practices. In other words, whereas the concept of the Qrops may be sound, the pricing structures applied to certain Qrops products may be punitive.
In registering a Qrops, HMRC does not guarantee that the advice you receive or the costs you pay will be of a certain standard.
Wayne Sorour, the head of Old Mutual International SA, says Qrops do not come as one-size-fits-all. “Each case needs to be assessed on its own merits, taking into consideration a range of factors, including the client’s personal circumstances, their views and preferences, the type of pension fund scheme they are invested in, and the options available to that scheme, such as investment fund choice and income.”
Issues to think about
You should take a number of issues into account before you transfer your savings into a Qrops. Usher says, as with any product, you should do a thorough due diligence on a Qrops. In particular, you need to find out:
* The nature of the scheme, including where it is domiciled (the jurisdiction in which the product is offered), whether it is approved by a regulator, and the costs.
* How your money will be invested and whether the investment strategy will enable you to achieve your goals.
Personal Finance compiled the following health warnings you should consider before placing your retirement savings in a Qrops:
* Sound advice is absolutely crucial, because the issues that must be considered when transferring your retirements savings to a Qrops are complex. Bear in mind that the person who advises you will have to be knowledgeable about tax and pension legislation in more than one jurisdiction.
Usher says advice must take into account your overall financial circumstances, tax position and estate planning.
Sorour says the issues can be so complex that Old Mutual makes use of other companies, such as Guernsey-based Sovereign Trust, which has the expertise of the Isle of Man-based Pentech International Financial Advisor Support Programme at its disposal. This enables it to obtain answers to questions such as whether a Qrops is still open to new members, whether a Qrops can fulfil its promises, and whether a Qrops is suitable for a particular client.
As a general rule, you should:
– Not deal with someone who cold-calls you.
– Make sure the financial adviser has the expertise to advise on Qrops. If the adviser does not, ask him or her to recommend someone who can assist you, or ask one of the major South African financial institutions to recommend an adviser.
– Ensure the adviser is registered with the Financial Services Board as a financial services provider (FSP), or as a representative of an FSP, and ensure that the representative is licensed to provide advice on investments. Remember, however, that FSB-registration in itself does not guarantee that you will receive appropriate advice.
– Do an internet search on the name of the advice company or the adviser. Often you will find that there are issues with a particular company. For example, a search will turn up many references to DeVere, which has offices in South Africa and advises on and sells Qrops. You will also find references to Carrick Wealth, which has been cold-calling South Africans who have returned home after working overseas and whose South African chief executive, Craig Featherby, was a former DeVere chief executive.
– Deal with an adviser who belongs to the Financial Planning Institute of South Africa, which entitles him or her to use the CFP accreditation.
* Jurisdiction, which means the country in which a Qrops is registered and where the underlying investments are managed and located. There are sound arguments for using a Qrops in an offshore jurisdiction, mainly tax ones, but they also provide protection against local political risk.
However, you need to be careful, because major scams are often directed through offshore jurisdictions that are not well regulated. A number of supposedly tax-friendly jurisdictions are very dodgy – for example, the Cayman Islands and even Mauritius. The massive international Belvedere Ponzi scheme, in which investors are estimated to have lost more than US$1 billion, was based in Mauritius, as was the South Africa-conceived Leaderguard Spot Forex scam, in which 1 200 investors, mainly pensioners, lost almost R500 million.
Even the popular jurisdictions in which Qrops are sold, such as Gibraltar and Malta, may not meet all the requirements you should expect for your protection. Gibraltar has close ties with Britain, but it does not regulate pension funds, there is no financial ser-vices ombudsman, and the Gibraltar Financial Services Commission does not resolve disputes between consumers and licensed firms.
The Channel Islands of Jersey and Guernsey are high on the list of preferred jurisdictions of British citizens retiring to other countries, because the level of regulation is high.
The advantage of transferring your money to a South African Qrops is that you are where your money is, you deal with South African-registered institutions and advisers, and you are protected by local regulators and adjudicators.
Apart from the level of regulation, you need to consider:
– Where you will live and draw an income in retirement;
– The political risk of a jurisdiction;
– A jurisdiction’s ties with other countries; and
– Whether a jurisdiction uses English as its language of business.
* Costs. Even in well-regulated jurisdictions, costs can undermine your wealth. Many of the more questionable companies and advisers selling Qrops charge high commissions on both the product and the underlying investments. The more loosely regulated the product provider and the adviser, the more likely that the costs, including the commissions and fees, will be opaque.
Costs, in any event, are fairly high for Qrops provided in tax-friendly jurisdictions. The advantages of using a South African-registered company is that, although the company may offer a Qrops in another jurisdiction, it will often operate under regulations in South Africa and/or the UK and set and disclose its costs according to those regulations. For example, Old Mutual International complies with South African commission regulations on its Gibraltar Qrops.
* Tax. The numerous tax issues that must be considered include:
– How your savings will be taxed in the UK and South Africa, or another country where you decide to live in retirement, particularly when you start drawing a pension.
– According to the website of HMRC, if you buy a pension in the UK to receive in retirement, regardless of where you are, you will receive 25 percent of your savings as a tax-free lump sum. The rest of the money will be taxed according to your rate of income tax in the UK. This depends on how much you earn as a pension and from any other source, with a maximum rate of 45 percent.
– In August 2012, the South African Revenue Service issued a binding ruling that, on an application from a taxpayer, assets transferred from a retirement annuity-type structure in the UK to a South African retirement annuity-structure Qrops would not be considered to be taxable income and would not be taken into account in calculating the maximum tax-deductible contributions you may make in any one tax year. At retirement, however, the amount transferred will be taxed in the same way as any other annuity. In other words, any lump-sum withdrawal will be subject to lump-sum taxation and the income drawdown will be taxed at your marginal rate of income tax when you receive your pension. There is no capital gains tax, income tax or dividends withholding tax on the capital before or after retirement.
– If you receive a pension in South Africa from an offshore source, no income tax is payable on the pension.
SOUTH AFRICAN QROPS
In May 2016, 12 South African retirement funds were listed on the website of Her Majesty’s Revenue and Customs with the status of Qrops. Some of them are employer-sponsored stand-alone funds, while others are commercial funds offered by the financial services industry. The funds are: Absa Group Pension Fund, Acuman Pension Fund, Allan Gray Living Annuity, Allan Gray Retirement Annuity Fund, Human Sciences Research Council Pension Fund, Investec Investment Linked Retirement Annuity Fund, Investec Linked Life Annuity, IQ Business Pension Fund, Metropolitan Retirement Annuity Fund, Mitek SA Pension Fund, Momentum Retirement Annuity Fund and Protea Life Preservation Pension Fund.
WHY A QROPS MAY BE BENEFICIAL
There are a number of benefits to transferring your retirement savings in a United Kingdom pension scheme to a Qrops. Wayne Sorour, the head of Old Mutual International SA, says the benefits include:
* The poor performance of some UK pension schemes, because of low interest rates and because some schemes invest only in low-risk, low-return UK gilts. With a Qrops you are normally allowed to invest in a wide range of asset classes and markets.
* You can appoint a qualified investment manager to construct a Qrops investment portfolio that meets your risk-and-return requirements.
* If you have a number of retirement plans, you can consolidate all your savings into one Qrops product, which will be easier to administer and may reduce costs.
* You can choose when you want retire from the fund, with 55 as the minimum age.
* Transferring your savings from a UK-registered scheme can remove the possibility of incurring a tax penalty once a fund grows above what is known as the lifetime allowance on tax incentives. Penalties of up to 55 percent on the investment growth apply when a fund value exceeds £1 million. Generally, contributions and investment returns of up to £400 000 a year receive tax relief with a life-time allowance of £1.25 million, which will drop to £1 million next year. Initially, the lifetime allowance was £1.8 million, and there is a concern that it may drop further.
* Members of a UK pension fund can withdraw up to 25 percent of their savings as a tax-free lump sum at retirement, whereas they could withdraw more tax-free in another jurisdiction. For example, it is typically 30 percent in Gibraltar, Malta and the Isle of Man if you have been a non-UK resident for longer than five years.
* Many UK pension schemes are in deficit, and some will not “get back into the black”, which means they might renege on promises of how much members will receive as a pension.
* In jurisdictions such as Gibraltar there are no taxes on lump-sum payments to beneficiaries on the death of the Qrops member.
* Some UK pension schemes offer only life-time annuities (known as guaranteed annuities in South Africa). This means that any residual capital cannot be left to your heirs once you and your partner die. A Qrops is similar to a living annuity, where any remaining capital is paid to the member’s nominated beneficiaries.
* When you are contributing before retirement to some schemes, there are no death benefits for surviving spouses or dependants and only your contributions are returned if you die before retirement.
* As a result of changes to regulations in the UK in April last year, retirement schemes (other than defined-benefit schemes) can offer a wider choice of how you want to withdraw your savings. However, not all funds offer these choices, but they are available via a Qrops.
RA TRUST ... A LEGAL WAY TO SAVE ON TAX
The days of hiding your wealth from the taxman are over, says Tim Mertens, the chairman of the South African arm of the Sovereign Group, which provides trust and fiduciary services and pension products in Guernsey, the Isle of Man, Gibraltar and Malta. It is no longer safe to hide wealth in foreign discretionary trusts that have not been properly disclosed to the tax authorities, because tax authorities around the world are increasingly sharing information, he says.
Companies, such as Sovereign Trust, that operate in jurisdictions such as Guernsey will not endorse practices that result in tax evasion, he says. “There are clearly established moral and legal standards that have been accepted around the world, and it is these standards that Sovereign seeks to uphold.”
There are, however, perfectly legal structures that you can use to reduce your tax liability. These include tax-efficient pension schemes registered in Guernsey, where returns are free of capital gains tax and income tax, and South African residents may, in certain cases, be able to receive a pension tax-free.
Sovereign Trust offers a pension product, called a Conservo, that falls under Guernsey’s regulated international retirement annuity (RA) trust schemes (Rats). These schemes, which were introduced in 1991, have a structure similar to a South African RA fund and are managed by professional trustees.
They come in two forms, both of which allow pensions to be paid to non-Guernsey residents tax-free.
He says you can use your foreign investment allowance to contribute to an international pension scheme from after-tax South African assets, to generate a pension that can be paid anywhere in the world, including South Africa, as what would currently be considered a tax-free pension.
Your investment can be a regular contribution and/or lump sum from money earned outside South Africa, or you can use your foreign investment allowance. You cannot claim the contributions to a Rat as tax-deduction, as you can with contributions to a local RA fund, because the Guernsey fund is not registered under the Pension Funds Act in South Africa.
Rats offer a high degree of flexibility when you need to draw a pension from the plan, which is not often the case with traditional pension or provident schemes. You can retire from a Rat between the ages of 50 and 75.
Mertens says money invested in discretionary trusts is increasingly coming under scrutiny from international tax authorities. But with a Rats, your money is held in a segregated account, along with the segregated accounts of other investors, under a Master Trust Deed.
Mertens says the advantages of the retirement product include:
* The portfolio can hold a wide range of investments, including shares in listed and private companies, derivatives and physical assets, such as art;
* The investment returns are tax-free;
* You have the freedom to decide where to invest;
* You can invest in any currency;
* You can choose the underlying investments and an investment adviser;
* It is more cost-effective and transparent than an offshore discretionary trust; and
* No requirement to buy an annuity (pension); you can take payments as a lump sum.
He says that there needs to be a clear record to prove the source of funds and proof of ownership of the assets before they can be transferred into the product. A Rat is not a Qrops, so savings in a UK pension scheme cannot be transferred into the retirement savings plan, Mertens says.