What’s the most efficient way to take income from your limited company?

Why does this need planning – what options are there?

Companies generally pay their employees a salary, perhaps with reward elements such as performance related bonuses, but basically remuneration is paid through the payroll and under deduction of PAYE.

But for the owner of a company there is more than one option for the method of remuneration, because a shareholder can take a dividend as owner, or salary as a director/employee, and there are other rewards that can be thrown into the mix such as pension contributions or benefits in kind, such as company cars.

And the make up of the remuneration package needs to be kept under review because the tax and pension rules are constantly changing.

What has changed?

For many years there was a significant advantage in taking dividends rather than a salary, basically because this avoids national insurance for both the employee and the employer – the savings could add up to several thousand pounds each year.

Unfortunately, the government has now tackled the disparity between the dividend and salary options and since April 2016 we have had an extra 7.5% added to the dividend taxation rates. This hasn’t quite created a level playing field – dividends are still more tax efficient than salaries (because of those NI costs) but the gap has been closed somewhat.

However, now that corporation tax rates are edging down to 17%, the increased costs of dividends will be mitigated slightly.

So, what’s the best strategy?

A very common, tax efficient, remuneration strategy is to take just a small salary to maintain a national insurance record for state pension purposes, so that’s a salary up to the NI threshold, a little over eight thousand pounds. Then the rest of the remuneration is taken as dividends, perhaps aiming for enough dividends to use the basic rate band, so as to keep the tax rate as low as possible – it depends on your income requirements.

The salary figure could possibly be pushed up to the personal allowance, if circumstances allow you to take advantage of the employment allowance which will mitigate some of the national insurance costs.

Are there other elements to the best remuneration mix?

The other main factor to throw into the mix is pension contributions. There have been successive changes which have limited the extent to which advantage can be taken of pension contributions but it still makes sense to use the opportunities that remain. If an individual is on a dividend remuneration strategy, it will probably be a matter of using employer contributions rather than personal ones.

What else should be taken into account?

There are a few areas to be mindful of:

Employment intermediary rules – for some there is legislation that prevents the use of a dividend based remuneration strategy.

Company cars – usually tax expensive. Have a close look at the tax effect before you throw them into the remuneration mix.

Remuneration or dividends for your spouse – can be very tax effective but, again care is needed. Salaries need to be actually earned and dividends directed to a person’s other half could fall foul of anti-avoidance rules.

At the end of the day take advice to achieve a tax effective remuneration mix and then keep it under review.

If you’d like to discuss your particular circumstances, please get in touch with Charles Green on 020 8652 2450 or email crg@clarksonhyde.com

The 2016 Budget – a summary of the key announcements

Clarkson Hyde’s Charles Green covers the key announcements from the March 16th budget:

George Osborne delivered a Budget aimed at reducing the deficit but it also contained a few surprises.  The most notable of these was an unexpected reduction to the headline rates of capital gains tax.

 

Not all of the measures related to the economy.  There was also a measure focused on public health – a sugar tax for the soft drinks industry aimed at combating child obesity.   

 

Our summary of these and other tax changes for 2016-17 and future years follows below.

Personal Tax and miscellaneous matters

Personal Tax allowance

From 2016-17, there will be one Income Tax personal allowance regardless of an individual’s date of birth.

  • For 2016-17 the allowance is set at £11,000, and
  • For 2017-18 at £11,500

Income Tax rate bands

The Chancellor confirmed his intention to remove taxpayers from the higher rate of Income Tax by increasing the levels at which taxpayers start to pay higher or additional rate taxes. The levels for the next two years are:

  • For 2016-17 – £43,000
  • For 2017-18 – £45,000

If your income before allowances exceeds these amounts you will be paying 40% Income Tax on the excess (this assumes that you are only entitled to the basic personal allowance).

The threshold at which the 45% rate starts is unchanged at £150,000.

For yet another year there were no changes to the basic Income Tax rate (20%), the higher rate (40%) and the additional rate (45%).

Capital Gains Tax (CGT) reduction

From April 2016, CGT on the disposal of chargeable assets, apart from residential property, is reduced to:

  • 10% from 18% on disposals that form part of the basic rate band.
  • 20% from 28% on disposals that form part of the higher rate band.

The existing rates (18% and 28%) will continue to apply to disposals of residential property subject to this tax and carried interest. Gains on a disposal of your home will continue to be exempt.

Entrepreneurs’ relief extended to include investors

Entrepreneurs’ relief (ER) will be extended to external investors in unlisted trading companies. This new investors’ relief will apply a 10% rate of CGT to gains accruing on the disposal of ordinary shares in an unlisted trading company held by individuals, that were newly issued to the claimant and acquired for new consideration on or after 17 March 2016, and have been held for a period of at least three years starting from 6 April 2016. A person’s qualifying gains for this investors’ relief will be subject to a lifetime cap of £10 million.

Entrepreneurs’ relief on disposal of goodwill relaxed

Legislation will be introduced in Finance Bill 2016 to allow ER to be claimed in respect of gains on goodwill where the claimant holds less than 5% of the shares, and less than 5% of the voting power, in the acquiring company. This ‘holding condition’ will replace a previous requirement that the claimant must not be a ‘related party’ in relation to the company.

Relief will also be due where the claimant holds 5% or more of the shares or voting power if the transfer of the business to the company is part of arrangements for the company to be sold to a new, independent owner.

Miscellaneous pension changes

A number of minor changes are being included to the pension’s tax rules to ensure that they operate as intended following the introduction of pension flexibility in April 2015. The changes will:

  • remove the requirement that a serious ill-health lump sum can only be paid from an arrangement that has never been accessed
  • replace the 45% tax charge on serious ill-health lump sums paid to individuals who have reached age 75 with tax at the individual’s marginal rate
  • enable dependents with drawdown or flexi-access drawdown pension who would currently have to use all of this fund before age 23 or pay tax charges of up to 70% on any lump sum payment, to continue to access their funds as they wish after their 23rd birthday
  • remove the rule on paying a charity lump sum death benefit out of drawdown pension funds and flexi-access drawdown funds where the member dies under the age of 75 because the equivalent tax-free payment may be made as another type of lump sum death benefit
  • enable money purchase pensions in payment to be paid as a trivial commutation lump sum
  • enable the full amount of dependent’s benefits to be paid as authorised payments where there are insufficient funds in a cash balance arrangement when the member dies

These changes will apply from the day after the Finance Bill 2016 receives Royal Assent later this year.

Excise duties

The duty on beers, spirits and most ciders will be frozen this year. The duty rates on wine will increase by RPI inflation from 21 March 2016.

Tobacco duty rates

Duty rates on all tobacco products will increase by 2% above the retail price index with a further 3% increase on hand-rolling tobacco, which will rise by 5% above RPI.
The changes to tobacco duty took effect from 6pm, 16 March 2016.

Fuel duty

There will be no increase in fuel duties. At the end of 2016-17 this will be the 6th year fuel duty has been frozen.

Transferrable allowances

The maximum amount of free personal allowance that can be transferred between spouses is increased to £1,100 in 2016-17 and £1,150 in 2017-18.

Lifetime ISA

From April 2017, any person under 40 will be able to save into a new Lifetime ISA.

Up to £4,000 can be saved each year and savers will receive a government bonus of 25% – that is a bonus of up to £1,000 a year.

Some or all of the money can be used to buy a first home, or it can be kept until age 60.

Accounts will be limited to one per person rather than one per home, so two first time buyers can both receive a bonus when buying together. If a saver has a Help to Buy ISA it can be transferred into the Lifetime ISA in 2017, or savers can continue saving into both, but it will only be possible to use the bonus from one to buy a house.

After your 60th birthday you can take out all the savings tax-free. You can withdraw the money at any time before you turn 60, but you will lose the government bonus (and any interest or growth on this). You will also have to pay a 5% charge.

ISA limit to rise April 2017

The present ISA savings limit of £15,240 will rise to £20,000 from April 2017.

Small business tax changes

Corporation Tax rate

The main rate of Corporation Tax from 1 April 2016 remains at 20%.

  • From 1 April 2017 the rate is set to reduce to 19%
  • From 1 April 2020 to 17%.

New stamp duty rates for commercial property acquisitions

From 17 March 2016, the way in which stamp duty is calculated on commercial property acquisitions will be changed. Instead of higher rates being applied to the total cost on a slab basis, the following rates will apply on a graduated basis.

The rates are:

  • Up to £150,000 no stamp duty is due
  • From £150,001 to £250,000 the rate is 2%
  • Above £250,000 the rate is 5%

Buyers of commercial property worth up to £1.05m will pay less stamp duty as a result of this change.

Business rates reductions

A 100% relief is currently available if a business occupies a property with a rateable value of £6,000 or less.

From April 2017, small businesses will be able to claim a similar 100% relief if they occupy property with a rateable value up to £12,000. Taper relief will apply for properties valued between £12,000 and £15,000.

It is estimated that this will mean 600,000 small businesses will no longer pay business rates.

Non-monetary transactions are taxable

From budget day, 16 March 2016, any trading or property income received in non-monetary form have to be included as income for tax purposes. This confirms previous tax cases on this issue.

Insurance premiums to rise?

The standard rate of Insurance Premium Tax is being increased from 9.5% to 10% from 1 October 2016. This will likely result in increased premiums.

The increase in the tax will be used to fund new flood defences.
Employer’s NIC on termination payments

From April 2018, certain employee payoffs, for example termination payments in excess of the tax free £30,000 where Income Tax is also due, will be subject to an employers’ National Insurance charge.

For employees, payments up to £30,000 will remain tax free and they will not suffer an additional National Insurance charge.

Class 2 NIC to be abolished

The Class 2 NIC charge is to be abolished from April 2018. The self-employed will continue to pay the existing Class 4 contributions from this date. Class 4 contributions will be reformed such that the self-employed can continue to build entitlement to the State pension and other contributory benefits.

Two new tax allowances

The Chancellor has introduced two new tax allowances for micro-business owners. The £1,000 exemption from tax will apply to:

  • People who make up to £1,000 from occasional jobs such as selling goods they have made, and
  • The first £1,000 of miscellaneous income from property, for example renting a driveway.

Incorporated property businesses to pay increased stamp duty

In an attempt to create a level playing field, the Chancellor has clarified, by amending legislation, that individuals are subject to the 3% SDLT supplement if they purchase more than one property, and companies on all residential property purchases even the first such purchase. Here’s what the Budget notes say on this issue:

“If, at the end of the day of the transaction, an individual owns 2 or more properties and has not replaced their main residence, the higher rates will apply. Purchasers will have 36 months to either claim a refund from the higher rates, or before the higher rates will apply, in the event that there is a period of overlap or a gap in ownership of a main residence. Companies purchasing residential property will be subject to the higher rates, including the first purchase of a residential property. Properties purchased for under £40,000, caravans, mobile homes and houseboats will be excluded from the higher rates. Furthermore, small shares in recently inherited properties will not be considered when determining if the higher rates apply.”

Zero-emission van’s benefit change deferred

Existing legislation, that applies the level of the van benefit charge for zero-emissions vans at 20% of the charge for conventionally fueled vans has been extended to the tax years 2016-17 and 2017-18.

This defers the planned increase to 40% of the van benefit charge for conventionally-fueled vans to 2018-19.

The van benefit charge for zero emission vans will be 60% of the van benefit charge for conventionally fueled vans in 2019-20, 80% in 2020-21 and 90% in 2021-22.

From 2022-23, the van benefit charge for zero emission vans is 100% of the van benefit charge for conventionally-fueled vans.

Diesel fuelled company cars’ 3% supplement retained

The 3% supplement that is added to the benefit in kind calculation for drivers of diesel fuelled company cars was due to expire 5 April 2016. The Finance Bill 2016 will now include a provision that retains this supplement indefinitely.

Trivial benefits in kind

Where the cost of providing a qualifying, “trivial benefit” for an employee is less than £50, it will no longer be required to disclose this as a benefit in kind from 6 April 2016.

There is an annual cap of £300 if the payments are made to directors or other office holders of a small company, or their employees who are relatives or members of their household.

Travel expense claims

From 6 April 2016, it will no longer be possible for workers engaged through an employment intermediary to claim for home to work travel expenses.

This regularises the established principal in the UK tax system that such regular commute costs between home and work cannot be claimed for tax purposes.

EIS, SEIS and VCTs: exclusion of energy generation

Investments in companies that engage in energy generation activities will be excluded from the tax advantaged Enterprise Investment Schemes, Seed Enterprise Scheme and Venture Capital Trusts. This will affect shares or holdings issued on or after 6 April 2016.

Use of home for business purposes by partners

The simplified expenses regime has been fully extended to include partnerships from April 2016. Where more than one property is used by partnerships for business and as a home then any claim for the simplified expense deduction for all such properties will be allowed.

VAT registration and deregistration limits

From 1 April 2016:

  • Registration threshold increased to £83,000
  • Deregistration threshold increased to £81,000

Larger company measures

Closing tax avoidance loopholes

In response to increasing demands from a number of directions the Chancellor has endeavoured to close a number of loopholes used by multinationals to avoid paying tax in the UK, on profits earned in the UK. They include:

  • Rules to prevent multinationals avoid paying tax in any of the countries they do business, an avoidance technique called hybrid mismatches.
  • Introducing rules to increase the tax take when companies make outbound royalty payments. Generally, these are fees paid for using intellectual property such as patents and copyrights.
  • Ensuring that offshore property developers are taxed on their UK profits.

The oil and gas industry

A £1bn tax support package has been announced that will effectively abolish Petroleum Revenue Tax – a tax on profits from oil fields approved before 1993 – and by dramatically reducing the supplementary charge on oil and gas extraction.

Soft drinks levy

From April 2018, manufacturers of soft drinks will be subject to a levy based on the sugar content of their products.

The basic rate will apply to drink with a sugar content in excess of 5 grams per 100 millilitres, with a higher rate for drinks on more than 8 grams per millilitre.

The levy will not apply to milk-based drinks or fruit juices.

The Treasury will use the proceeds of the levy to double the primary PE and sport premium. They will increase money provided to schools for this purpose to £320m per annum.

If you would like to discuss the impact of any of these announcements on you or your business, please get in touch with Charles Green on 020 8652 2450 or email crg@clarksonhyde.com

Residential property letting – let’s talk tax!

One of the areas clients often ask me about is the taxation aspects of residential property letting:

“Should I invest personally or through a company?” 

“How do I calculate the letting profits and expenses that can be claimed?”

“What are the tax implications when I sell the property?”

In the July ’15 budget, a couple of significant changes came into play so it’s worth taking a look at the key facts:

It’s taxable!

It’s probably a fairly obvious point but the profits from letting are taxable. There’s a need to notify the Revenue of the letting and, in most cases, this will lead to the requirement to file tax returns.

I have to say that in my experience the reporting by taxpayers of residential property letting is one of the main areas of non-compliance that I encounter. It’s all too easy to start letting, perhaps simply a former main residence that has been retained by the owner, and overlook the need to deal with the taxation obligations. It isn’t worth it – the Revenue get better all of the time at catching up with defaulters.

As a landlord you will need to notify HMRC by October 5th following the first year of letting – probably best by phone initially, or you can complete an SA1 form online. Usually, the end result is that you’ll need to do annual tax returns.

If you have been letting for some time under the HMRC radar, then you could make a disclosure to them under their let property campaign – designed to flush out defaulters by offering low penalties.

 Companies vs personal ownership

Small scale residential investment is usually done as an individual rather than using a company, because:

  • Investors will usually want to avoid the costs and administrative bother that goes with running a company
  • If it’s a former personal residence the property will already be owned personally and the owner will want to enjoy some degree of exemption on the end disposal of the property, due to Capital Gains Tax main residence relief.

Using a company

The costs of running a company make more sense when it’s a bigger enterprise, because:

  • You can avoid drawing income personally – so there’s only 20% Corporation Tax (now reducing to 18% over the next few years)
  • There’s Limited liability for the owners – probably not a major consideration (more of an issue for businesses with risky transactions, or, perhaps, dangerous machinery or heavy vehicles)
  • Admin: filing accounts and Corporation Tax returns etc.
  • ATED returns – required now for properties in companies when they have a value of more than £1 million – next year the return is needed for properties valued > £500K

There are a few changes and proposals in the recent budget that may encourage the use of companies:

  • There will be future reductions to the Corporation Tax rate. We already have a relatively low rate of 20% – that’s reducing to 18% in a couple of steps. We’ll have the 18% rate in 2020.
  • A proposal to allow buy to let mortgage interest only at the basic rate of tax. Possibly we will have this from 6.4.17. Higher rate taxpayers will certainly wonder whether letting via a company is a better bet.
  • There’s also a change for the worse regarding companies: there will be increased taxes on dividend payments from April 2016 (and dividends are probably the most popular way of extracting income from a company). Not a problem, though, if you don’t plan to draw income from your company.

Calculating the taxable profit

 The first point is the need to keep records.  It doesn’t have to be too sophisticated unless it’s a big or a corporate letting concern – a file of receipts and an excel spreadsheet will usually do.

The income side is usually very easy to identify – it’s more a question of knowing what costs can be claimed.

As a broad rule the costs incurred in running the let property can be claimed as a deduction against the letting income, but the capital cost of the building cannot (i.e. the property purchase price, the cost of any structural changes or extensions etc.).

The sort of costs that can be claimed as deductions are:

  • Decoration and repairs
  • Rent/ground rent that you pay
  • Managing agent fees
  • The legal costs for short lease renewals
  • Interest on mortgages to fund the cost of the property (but note possible new rules)
  • Insurance
  • Gas safety certificates etc.

There are a few areas with particular considerations:

Relief for assets and renewals.

This has traditionally been a difficult area. Generally the existing rules are that claims are made:

  • For replacement items when they are incorporated into the building (kitchen units etc.)
  • For replacement items of small value (crockery or rugs for example)

And for furnished lettings:

  • A wear and tear allowance of 10% of rental income to allow for the ongoing cost of furnishings, carpets etc. (Note this has always been a valued relief and, going back a couple of years when it was possible to claim relief on a replacement basis as an alternative, taxpayers rarely took advantage of this because wear and tear is more beneficial.)
  • Some assets, however, fail to get relief (for example, free standing items such as fridge freezers).

Budget changes

Again, the recent budget has announced changes that affect the current rules – from April 2016 the wear and tear allowance will be replaced with a new relief that will allow relief for furnishings on a replacement basis. The details will be announced after a consultation process. Although it’s disappointing to see the 10% wear and tear allowance go, the upside is that we expect the new replacement basis to bring in relief for items such as freezers and televisions.

Relief for mortgage interest

This is another area for which changes were proposed in the recent budget, the introduction and details being subject to a consultation process.

It is proposed that relief for mortgage interest will be restricted to the basic rate of tax – this restriction being phased in from 2017/18 onwards.

I personally don’t think this is something that is necessarily fair from a taxation point of view – I think we have to accept it is probably a measure that is designed to dampen demand for buy to let properties, where investors are competing with prospective homeowners for housing – a resource for which there is limited availability.

This could have the effect that higher rate taxpayers pay tax on a profit they don’t make. As I mentioned before, investors in this situation will wonder if the use of a company is the way forward.

Losses

Losses cannot be offset against other types of income. They have to be carried forward to set against future letting profits.

Capital Gains on sale

A common reason for going into buy to let is the long term capital gain – for individuals the gain on a standard buy to let property is taxed at 18% or 28% (depending on how much of the gain falls into the higher rates).  Individuals also have an annual exemption to set against gains (currently £11,100).

As I mentioned before, if it’s a former main residence then main residence relief (and related letting relief) should also be available to some extent.

Other letting issues

Holiday letting: has different rules – it’s treated as a trade.

Foreign lets: profits are calculated in the same way as for UK property lets but the reporting goes on the foreign pages of the tax return, and losses are ring-fenced for foreign lets only.

Stamp duty: some reform this year but it’s still expensive!

It’s clear that a lot of different rules come into play when letting a residential property. If you’d like more detail on anything that’s covered here, please do get in touch on 020 8652 2450 or via email at crg@clarksonhyde.com