DB schemes losing up to £250m a year due to tax-inefficient funds

The research suggests schemes are losing out on the additional income each year in their global portfolios because they are investing via less tax-efficient fund structures than those available.

The study - which questioned 120 UK DB schemes - revealed nearly three-quarters (72%) are using fund structures that are not tax-efficient; these include unit trusts, investment trusts, and open-ended investment companies.

It also revealed schemes invested a total of £56bn in these less tax-efficient funds in 2019, leading to lost income of up to £250m for DB schemes last year alone, potentially resulting in £2.5bn over the next decade.

Additionally, 69% of schemes using these funds revealed they were unaware of investment income benefits that tax transparent funds have compared to other fund structures. Most schemes (82%) said tax-efficient fund structures for equity investments are not included in their scheme's risk register.

Despite being tax-exempt investors, DB pension schemes are not eligible to reclaim any withheld tax paid to foreign governments on their foreign equity holdings, unless they invest via tax transparent funds or insurance policies for their pooled fund investments.

The research suggests loss could be mitigated if schemes optimise these pooled investments for tax efficiency.

AMX chief executive Oliver Jaegemann said: "In the current environment due to the Covid-19 crisis, many pension scheme trustees and their advisers are facing widening funding gaps, scheme sponsors in financial difficulty, and deliberations on re-risking their investment strategies. This is an important time when DB pension schemes should be looking to take advantage of every revenue stream available to them.

"To miss out on over £250m in investment income each year seems like an own goal, particularly when the revenue is independent of market movements and can be reduced or reclaimed if their funds are set up for tax transparency."

He continued: "Over the next ten years, UK DB pension schemes could add nearly £2.5bn in assets by adopting tax efficient fund structures for their pooled fund equity investments. Further, they do not have to change their selected asset manager or their investment strategy to do so."

Northern Trust EMEA head of global fund services Clive Bellows added: "Now is a timely moment for those overseeing DB pension funds to discuss the tax efficiency of their investments with their advisers and investment managers - and use the withholding tax reclaims or reductions they may be entitled to.

"Similarly, asset managers that operate or are planning to launch equity-based European funds would do well to consider how the use of a tax transparent fund may benefit their investors. It is now potentially more cost-effective than ever for them to derive the advantages of tax transparency while optimising efficiencies across their fund ranges."

 

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• Topics
• Defined Benefit
• Oliver Jaegemann
• Clive Bellows
• DB scheme
• AMX
• Northern Trust