Tax planning for business owners

Choice of accounting date

  • The choice of accounting date affects the delay between earning profits and paying tax on those profits. When profits are static this delay is not an issue, but when profits are rising this provides a useful cash flow benefit. However, when profits are falling this can make tax payment difficult if business needs have eroded cash that might have been set aside to pay tax.
  • An accounting date early in the tax year is a benefit for a growing sole trader or partnership business, but current economic conditions mean that some businesses might benefit from a change in accounting date to ensure that lower profits come into charge earlier, reducing tax payments. Of course as profits rise again, this might not be as attractive, and unincorporated businesses are not permitted to change accounting date more than once every five years unless it is for genuine commercial reasons.
  • The accounting date of a company does not affect the interval before tax is due on the profits as corporation tax is always due for payment nine months after the end of the year, except by the very largest companies. However if your business is very seasonal changing the date may delay the period from when your major profits are earned to the date of payment.

More than one business?

  • When you plan to have several business interests it is important to be aware of the tax implications when setting them up. The structures you put in place can affect the tax liabilities on the business profits.
  • When two companies are under common ownership, the small company limits for corporation tax are shared between them. This includes companies owned by partners and children, though from 6 April 2012 there is an exemption where there is no substantial commercial interdependence between the companies. This is quite a complex area, so if your partner or adult children have their own businesses run through limited companies, some timely advice could save significant amounts of tax.
  • Where there are several associated companies it very much more likely that a successful business will pay the marginal rate of corporation tax (25% for 2012/13) on the top slice of its profits. For example, although the limits are £300,000 for the small profits rate, if there were three associated companies, each would only benefit from £100,000 of profits at the small company rate. Two of the companies might only make small profits of around £10,000 per annum, but the third successful company making £250,000 would suffer the higher rate of tax on £150,000 of those profits, in spite of the fact that between the three companies the £300,000 limit has not been exceeded.
  • Where related companies are sharing the limits in this way there is still no possibility of offsetting losses between them, so this could be viewed as the ‘worst case scenario'. Forming a small group of companies would at least allow the losses in one to be offset against profits in the others.
  • It is important that you consider the structure of your business interests on a regular basis to ensure that you have the best outcomes for your business and you.

Extracting profits from a company

Whether you are considering extraction of profits from a company on a tax year basis or aligned to the company year end, there are a number of issues that should be considered.

  • Salary: National insurance contributions are expensive but salary can be deducted from taxable profits in the company, so if some profits are taxed at the marginal small profits rate (currently 25%), there is very little difference between extracting profits by way of salary or dividend for higher rate taxpayers. Nevertheless, for most, the extraction of profits by way of dividends remains the most tax efficient option.
  • Bonuses: Where annual bonuses are payable, the bonus must be due and payable before the company year end, even if the specific amount has not been decided. This is necessary to benefit from tax relief against the profits of the period. The bonus must always be paid within nine months of the year end to secure the tax deduction in the company.
  • Dividends: These are subject to a lower rate of income tax than other sources of income, though this is mitigated by the company not being able to claim corporation tax relief. The main advantage of payment by dividend as opposed to salary is that no national insurance is payable on dividends.
  • Benefits in kind: Some benefits in kind are still quite tax efficient, including the provision of a company mobile telephone and a car with low emissions. Such cars may also qualify for a 100% first year allowance in the company. Other benefits may be taxable and liable to employer national insurance but there is no employee national insurance.
  • Pension contributions: The same test applies to pension contributions for director shareholders as applies to the spouse of a shareholder/director. Provided the total salary package (ignoring dividends) is reasonable for the input of the director into the company, then all salary plus pension contribution should be allowed as a deduction against profits. Remember that there is an annual limit on pension contributions, which is now just £50,000, though unused limits from previous years can be used. Contributions in excess of this will trigger a tax charge on the member.