Facing higher corporation tax
Prime Minister-in-waiting (at the time of writing) Gordon
Brown is rather good at giving with one hand and taking away
with the other. In his final Budget (unless he decides to
emulate William Gladstone by combining two posts) the Chancellor
did not only “bury the bad news” about his removal
of the 10p personal rate of tax behind the headline reduction
of the basic rate to 20p next year. He also increased the
corporation tax rate for smaller companies with immediate
effect, while reducing the rate for larger companies from
April 2008.
So while for 2005/6 a company could make a profit of £10,000
and then retain it all within the company as working capital,
for 2006/7 the tax on the same profit was £1,900 due
to his removal of this “personal allowance for small
companies”. What is more, for 2007/8 the tax at this
level will be £2,000 … rising to £2,200
in 2009/10.
The inability of small businesses to retain a modest tax
free amount to finance expansion plans internally, rather
than having to borrow to do so, is another example of how
little government understands the needs of commerce. But as
we have no option but to live with the rules – there
is no guarantee that the next administration will have the
courage to reverse all the freedoms that have been removed
over the Blair decade – it is the function of financial
advisers to help businesses cope.
One way in which this can be achieved is ensuring that money
is removed from the company in the most tax efficient way.
In some cases this might be through the payment of dividends
rather than salaries. This at least reduces the liability
of both employer and employee to national insurance contributions,
but tax still has to be paid at up to 40%, depending on tax
status.
However, the option of making pension contributions is now
even more attractive, since not only are NI payments avoided,
but the employee also has no tax to pay. And, of course, the
employer can still treat the contribution as a legitimate
business expense – provided that the total package is
“reasonable” in the eyes of the local Inspector
of Taxes and pension contributions do not exceed the annual
allowance (set at £225,000 for 2007/8).
There is another benefit that might not be so immediately
obvious. If the director concerned is over 50*, the pension
can “vest” immediately with 25% of the value being
taken as tax free cash. There is no need to draw an income
or purchase an annuity at that stage. This money can be re-invested
in the business as a director’s loan and used for business
development. A pension contribution of £40,000 would
thus save the employer tax, as well as securing a £10,000
investment in the company and also provide a residual pension
fund of £30,000 for the director (charges would reduce
the actual figures).
What is more, the director can take part or all of the cash
out at any point in the future without incurring any tax liability
whatsoever.
* Tax free cash must be taken before age 75 or the option
is lost; income requirements also change at this point.
Where can my clients go for help?
If you would like us to review any of your clients’
corporate tax strategies, please contact
us.
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