Extract Profits from your Company Tax Efficiently
If your business is doing well and generating healthy profits, now may be the time to start extracting it from your business! As a Company Director or spouse employed in the business, an attractive method of extracting cash from the company tax-efficiently and turn it into personal wealth is by way of transferring and investing those profits into a company pension.
It is key to have the money paid from the company account into the pension via ‘Employer contributions’, on your behalf, to which they are treated as a business expense, deductible for Corporation Tax purposes in the company. The benefits are two-fold, in that, not only can you minimize personal tax liability, but you can also take a substantial amount of money out of the business if needed (as illustrated in the below calculation examples).
The objective is to avoid costly extraction methods (that would have you paying unnecessary tax, through higher salaries, bonuses or share dividends), while putting the money to work and growing your wealth.
The types of pension schemes that can be used to facilitate this is either an Executive Pension (Occupational Pension) or a PRSA (Personal Retirement Savings Account).
Conventional extraction methods will cost you more:
You may decide to take profits from your company in the more conventional ways, but these will just leave you paying more tax:
- If you take it by way of salary, you may have to pay income tax at up to 40%, USC up to 8% and PRSI up to 4%.
- If you take it as dividends, you would pay tax at up to 40%.
- If you use the money to buy a car for yourself, you pay Benefit in Kind at up to 30%.
- If you sell your company, you pay Capital Gains Tax at 33%.
- In the event of death, Capital Acquisitions Tax at up to 33% applies.
Therefore, by transferring your profits into a Company Pension, you can reduce the above forms of personal tax liability.
Transferring Company Profits into a Pension
How does it work?
Employer contributions are not restricted by age related limits unlike member/employee contributions, but instead are related to the cost of providing retirement benefits based on “two thirds” of salary (where there is at least 10 years service at retirement). This can result in very generous contribution amounts.
Contributions are allowable as either Ordinary Annual Contribution or Special Contributions. The maximum allowable ordinary annual contributions to a scheme include all Employer, Employee and Additional Voluntary Contributions (AVC’s) made to the scheme in the company accounting period.
It is worth noting that it is possible to pay an Ordinary Annual Contribution by either regular monthly, quarterly or annual payment or by way of single premium. Special Contributions are normally paid by single premium and can be used to backdate periods of salaried service which were previously not pensioned.
The below information is needed to calculate the maximum contribution that would benefit you on a tax efficient basis when funded by the company:
Ordinary Annual Contribution Calculation
Emma is 35 and married and has a salary of €50,000. She has a Personal Pension currently valued at €100,000. She has no definitive plan for a retirement date but wants to maximize pension contributions now to the best arrangement available.
The Revenue limits around personal contributions mean that the maximum personal contribution she could make to a pension based on her age and income level would be €10,000 (20% x €50,000).
However in Emma’s case, her salary comes from her company. As a result the company itself can make contributions to an Executive Pension arrangement on Emma’s behalf.
As you can see the company can make a far greater contribution on Emma’s behalf than Emma could make personally under the personal age related limits. For the purpose of the calculation we have assumed Emma’s NRA to be age 60 as she has no specified retirement date and wishes to maximize contributions.
Special Contribution Calculation
There is also the potential for companies to make pension contributions on behalf of employees for previously unfunded service with the company. These contributions are known as Special Contributions.
James is 50 and has his own company from which he takes a salary of €40,000. James set up his company fifteen years ago, taking a salary for each of these years but has no previous pension funding in place. James wishes to retire at age 60.
As you can see the company can make a far greater contribution on James’s behalf in respect of previous service than James could make personally under the age related limits. The employer could immediately make a very large Special Contribution for James from the outset.
Revenue limits around personal pension contributions does allow backdating where prior to the 31st October in the current year, James could make a contribution and offset against last years income tax bill but limited to age and earnings attained in the previous year. Assuming earnings were the same this would equate to 25% of €40,000 or €10,000.
However, Revenue also allows that contributions may be made in respect of previous service by an employer using an Executive Pension arrangement. The calculation is based on the member’s current salary and all previous years with the company where they took a salary. This can be particularly beneficial for late starters to pension funding.
Employer Contributions to PRSA Update!
Removal of Benefit-in-kind (BIK) for an Employee
The Benefit-in-kind (BIK) charge on Employer contributions to a PRSA has been removed. Previously where an employer paid into the PRSA, that contribution used up part of the employees own scope within their age related limits to pension their income. This restricted Employer PRSA contributions to levels that were significantly less than those for Executive Pension or a Master Trust equivalent.
Now, Business Owners can extract cash from the company in a more tax-efficient manner and make uncapped contributions to a PRSA!
Summary of PRSA Opportunities
Employer contributions to a PRSA no longer restricted.
BIK charge on employer contributions removed. No longer included in age related limits.
Tax relief on employer contributions can be claimed in the year its paid.
Option for all PAYE employees.
Employers don’t have to be a limited company – Sole trader and partnership allowed.
Not subject to IORP II investment rules, trusteeship.
Member has more control.
Lump sum from a foreign pension scheme forms part of life time allowance.
Small employer – Group PRSA potential solution for less than 10 employees.
Transitioning an Executive Pension to a Master Trust is not the only solution. PRSA is now a comparable alternative to the Executive Pension.
Tax Relief through Employer Contributions
Tax relief can be attained on Ordinary Annual Contributions and Special Contributions in the year in which they are made, where the Special Contribution is equal to or less than the corresponding ordinary Annual Contribution made in the same year.
A huge plus is that those who invest in a company pension plan enjoy benefits such as:
- No Benefit-in-kind on employer contributions.
- Immediate income tax relief on AVCs and employee contributions deducted from salary.
- Corporation tax relief on employer contributions in the year the contribution is made at the rate of corporation tax which is currently 12.5%.
- No employer PRSI is paid on employer pension contributions to an occupational pension scheme.
There are further tax advantages as any contribution made is invested in a pension fund which enjoys tax-free investment growth with no DIRT, Exit Tax or Capital Gains Tax applicable to any investment return achieved by the contribution.
How do I get started?
The rules governing overall contributions to these types of Pensions can be complex.
We recommend contacting a Financial Advisor first to ensure that your objectives are understood, and that you are getting the right advice to maximize the overall contributions and tax-efficiency.
Speak with a Financial Advisor:
Fill out your details and enquiry below, and one of our Qualified Financial Advisors will get back to you shortly.