Flexible pension planning for the company owner

Posted 2014 by admin

Many of our clients’ trade through limited companies and this can often offer a great deal of flexibility when it comes to pension planning.

The Traditional Route

An individual could extract money from his company in order to pay into his personal pension. This is normally extremely tax inefficient as any individual pension contributions must be “matched” by salary. For example, a £20,000 gross individual pension contribution would require that the individual received a salary of at least £20,000 and that would involve several £000’s in employee and employer National Insurance Contributions. A much better way for the individual to receive the same amount into his pension would be for the company to make a direct employer contribution. The employer contribution can be paid without regard to the level of the individual’s salary and therefore the NIC cost is avoided altogether. In addition, the company gets a tax deduction for the contribution resulting in a tax saving of 20% of the contribution. Of course, there are a number of downsides to traditional pension planning through a pension provider. There is no guarantee of performance, low annuity rates may lead to a poor pension and  you may not live long enough to benefit from the money you have set aside. In addition, once you start to take your annuity, on your death, all payments cease and there is nothing to pass onto your dependents.

Alternative routes

Instead of putting money into a pension, the individual may decide to keep the money within the company. By following a cautious remuneration package, higher rate tax payable by the individual can be limited. Although, by not contributing to a traditional pension there is no corporation tax relief, it does mean that the company can build up quite large sums of money over the years. If a company could set aside, say £40,000 a year over 15 years that would be a starting figure of £600,000.  During that period, the company has a number of investment opportunities, most commonly, stocks and shares, Bonds, Buy-to-lets and bank deposit accounts, (but not ISA’s). With 15 years of compounded investment returns, one would hope that over the period a figure of nearer £1,000,000 might be attainable. Once the individual reaches a point where he decides he no longer wishes to continue to work, he can draw funds from the company (normally in the form of dividends). As long as he (and often his spouse if he/she is a shareholder) keeps his income within the basic rate band for tax then there will be no further income tax to pay. For a husband and wife business that could mean a “tax-free” pension of £70,000 a year between them. If the individual wanted immediate access to the entire cash, it is possible to liquidate the company and take the proceeds as a capital distribution. In the case of a trading company, Entrepreneurs’ Relief may be available which could result in a comparatively attractive tax rate of just 10% on the total. However, HMRC will check the trading status of the company and this can be affected by the level of investment activity undertaken by the company.

Buy-to lets

I am often asked whether to acquire a buy-to-let property through a company or in the individual’s own name. If there are funds already locked into the company, which would involve paying higher rates of tax when withdrawn by the individual then there is a particularly good reason for the company to buy the property. Advantages of buying through the company would include:

  • If the individual needed to take funds from the company to pay the deposit there might be higher rate tax to pay. If the company purchases the property in its own name the higher rate tax issue does not arise.
  • On eventual sale of the property, any gain would be taxed in the company at 20%. It is likely that the gain on an individual would be taxed at 28%.
  • Any profit on the monthly rentals would be taxed in the company at 20%. If the individual owns the property it would be taxed at his marginal rate, which is often 40%.

Disadvantages of buying through the company are:

  • On sale of the property there might be an element of double taxation if the individual wanted immediate access to a large proportion of the funds. (This is not a problem if funds can be withdrawn gradually).
  • Lenders often charge higher interest rates to companies than they do to individuals.
  • As explained above, investment in a buy-to-let may endanger the ability to claim Entrepreneurs’ Relief if the intention is to wind the company up (rather than a gradual extraction of funds).

Although there are some disadvantages to limited company ownership, these generally only arise where it is intended that the proceeds of sale are needed by the individual in a hurry. Consequently, in many cases providing for pension provision via a buy-to-let in a limited company makes very good sense. If you would like to know more please contact one of our tax team tax@ross-brooke.co.uk or call us on 01635 555 666.

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