In previous articles I have highlighted the taxation benefits of forming a limited company but one of the most commonly asked questions that I am confronted with is how does one extract some of those retained profits from your limited company in a tax-efficient manner.
here is no one answer to this question and I will deal with a number of possible options in future articles.
But for the purposes of this article, I will cover one commonly-used method of converting company cash into personal wealth - namely, a director's pension scheme.
The benefits are numerous and are summarised here. The employer as referred to in the chart is the actual farming company.
Full Corporation Tax relief in respect of allowable pension contributions.
No PRSI or USC payable on employer pension contributions.
No Benefit in Kind on employer's contribution to employee's pension plan.
A company director can retire and draw on their pension benefits anytime from age 60 onwards and can still remain working in the business and retain their shareholding. A director may actually retire from age 50 onwards but subject to certain Revenue requirements such as them being required to relinquish their shareholding in the company.
The investment growth is tax free.
You can avail of a tax-free retirement lump sum of 25pc of your fund subject to a maximum of €200,000.
A director with at least 10 years' service may opt to take 150pc of their final salary as a tax-free lump sum (but subject to them putting the remainder of the fund into an annuity - see below).
Where the pension value is in excess of €800,000 the balance of the 25pc lump sum remaining after the first €200,000 drawn down is subject to a lower tax rate of 20pc.
Opportunity to pass funds after your death free of inheritance tax to your children who are over 21 years old.
The earnings cap limit of €115,000 that applies to sole traders does not apply to directors.
Possible to establish a Death in Service benefits of up to eight times salary, the cost of which is allowable against company profits. Of the total benefit, four times salary is payable to your spouse tax-free and the balance is paid by way of an annuity.
The director's salary can be protected by way of an Income Protection policy in the event of long-term illness or disability, which can be up to 75pc of current salary.
The premiums on such a policy are allowable against the profits of the company.
Probably the greatest distinction between a personal pension scheme and a corporate pension is the amount of money that can be contributed to the fund.
The amount of money a company can contribute to a director's pension on behalf of a proprietary director can be substantial and this can be useful for directors who may not have too long to go to their planned pension age.
The company may make whatever contributions are necessary to build up a pension fund which will provide a director with a pension of two-thirds of final pensionable salary -subject to a maximum salary of €150,000 and a maximum fund value of €5.4m.
The figures assume that no existing pension provision exists and that there will have been 10 years pensionable service at age 60.
Joe Farmer is 50 years of age and has a farming company owned jointly with his son.
The company has been trading profitably for a number of years and currently has cash reserves of €250k. Joe currently takes a gross salary of €50k per annum.
It is expected that the company will continue to enjoy annual surpluses well in excess of €50,000 before payment of a salary to Joe.
Joe plans to hand over his shares in the company to his son when he reaches 65.
He is anxious to accumulate as large a pension pot as the company can reasonably afford within the 16-year time frame so his accountant advises him that the company could easily manage to fund a pension contribution of €50k per annum, which will be fully allowable against Corporation Tax.
The amount contributed is taken to be €50,000 per year over 15 years, or €750,000 in total. At a projected growth rate of 3.5pc the final pot will be €947,000.
At that stage Joe can draw €200,000 free of tax and a further €36,750 subject to 20pc.
With the remainder of the fund, Joe will have an option of taking a pension for life of €25,000 pa (estimate 3.5pc annuity rate) or he can effectively take ownership of the fund by way investing it in (1) an AMRF (Approved Minimum Retirement Fund) in which he is required to invest €63,500 until he is 75; and, (2) an ARF (Approved Retirement Fund) with the balance, from which he can make withdrawals at any time subject to income tax, PRSI and Universal Social Charge.
As Joe is likely to go the AMRF/ARF route, he will have managed to extract and retain €200k tax-free, along with a further €36,750 subject to a maximum of 20pc tax, and a balance of €717,600 which will be subject to personal tax on any withdrawals he may choose to make.
Accordingly, Joe has full control over his ARF fund and can tax plan to minimise his exposure to tax.
In the event of his death, the ARF/AMRF funds would not attract any tax were he to leave them to his wife, provided the funds were invested in an ARF in the wife's name.
Where the fund is left to a child over 21 years, there is a liability to 30pc tax, but there is no exposure to inheritance tax.
The big advantage of the company pension scheme as against a personal pension plan in this instance is the size of the pension pot that Joe was able to accumulate over a relatively short period of time.
Martin O'Sullivan is the author of the ACA Farmers Handbook. He is a partner in O'Sullivan Malone and Company, accountants and registered auditors; www.som.ie