If you own a business run through a limited company, you know already one of the tax problems we deal with on a day-to-day basis. And that is how to extract cash from the company in as tax efficient away as possible.
The normal ways are through salary and dividends …. but these are costly for tax… and we will come back to them in later news articles.
But now we will focus on another way -company pensions.
SOLUTION – COMPANY PENSION
The reason this is a solution to the extraction problem is that the company makes the pension contribution for its owners, so they don’t have to pay it from their net salary. Therefore, their salary stays the same, but the company is paying their pension. The company get a tax deduction for the payment. The saving is at 12.5% so a monthly contribution of €1,000 would be a net cost to the company of €875.There is no tax on the income or gains within the pension so the fund can grow tax free.
The fund can be used to invest in property…. more of that in a later article.
CONTRIBUTIONS
The amount you can put into a pension as a self-employed person is limited by your age and your profit. The maximum profit is capped at €115,000. A 43-year-old self-employed individual the percentage of profit that they can contribute is 25%.
EXAMPLE
Tom, aged 45, made a profit of €60,000. The maximum pension contribution that Tom would get tax relief on for would be €15,000, being €60,000 X 25%. If Tom was in a company and with a salary of €60,000 the company could fund a pension for Tom that would give him up to 2/3rds of his final salary. Assuming his final salary, at retirement, was €75,000 then there is scope to fund a pension of up to €50,000 per annum. Based on an annual pension contribution of €50,000, that could be a pension pot of up to €1,000,000 at age 65.
CONVERTING COMPANY FUNDS TO PERSONAL FUNDS
The company is paying for the Director’s pension, so company funds are being converted to personal funds. Actual cash extraction will be deferred until retirement. If you died during the term of the pension, then the value of the pension is paid out to your spouse or your estate.
EXTRACTING THE CASH
The options to extract the cash when you start drawing down the pension are:
1. Take a 25% tax-free lump sum with the balance going into an ARF or an annuity
2. Take a lump sum of up to 1.5 times final salary with the balance going into an annuity
Option 1 is the normal route. The maximum tax-free lump sum when drawing down a pension is €200,000.
Therefore, to get this maximum you need a fund of €800,000.
Yes, that’s a heck of an amount. But if your company is making good money and you want to extract it as cheaply as possible, a company pension is a way to do it.
Assuming you have €800,000 in your fund, and you take your tax-free lump sum you are left with €600,000. That can either be invested into an Approved Retirement Fund [ARF] or an Annuity. If investing into an ARF you can draw down this as you please, subject to normal tax rates,
You could draw down 5% of the ARF annually using the fund of €600,000 and this would be an annual pension of €30,000. If you received the State pension of €13,000 your total pensions are €43,000. If you are married and this was your only income, then all of this would be taxed at the lower tax rate of 20%
Talk to us
Interested in talking to us about this? Call Dave on 091 586020 or dave@dvmannion.ie