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Pension answer to Entrepreneurs’ Relief loss risk

A recent meeting of one of the Tax Discussion Groups in Croydon and South East London heard how substantial pension contributions could reduce the impact a large cash balance might have on a client’s eligibility for Entrepreneurs’ Relief.

May 2018

The accountant explained that her client’s company had substantial distributable reserves of over £500,000, of which the greater majority was in the company’s bank account. The shareholders, her client and his wife, were drawing a combination of dividends and salaries to the higher rate tax threshold, and this financed their expected standard of living.

The client wanted to know if he could withdraw substantial funds as a loan, which he invested himself, returning the monies back to the company shortly before the end of the accounting period. He explained that the lack of investment return on the company’s funds was an issue he wished to address.

There was a general discussion regarding the following areas:

  • Beneficial loan interest charges on monies extracted from a company
  • Class 1a National Insurance on the beneficial loan
  • Tax charge under s455 CTA 2010 “loans to participators”

But there were also practical concerns about the potential loss of Entrepreneurs’ Relief and additionally the interaction with investments.

The substantial cash reserves being 80% of the balance sheet net reserves, and even 25% of the company’s annual expected turnover, had led the accountant to conclude that there was a substantial risk that HMRC would consider that should her client decide to sell or liquidate his business that the company shares were not eligible for Entrepreneurs Relief as at the current time the cash reserves were greater than the 20% threshold for non-trading assets, cash being a somewhat grey area when determining status for Entrepreneurs Relief.

There was concern that the business could be valued at over £1m and hence the tax differential between qualifying for Entrepreneurs Relief and taxable at 10% and not qualifying for Entrepreneurs Relief and taxable at 20% was substantial.

There was a broad agreement from those attending that the client needed to investigate their pension provision and ascertain whether there was scope for making substantial pension contributions. This would address the concerns that the accountant had about the amount of cash on the company balance sheet while providing the client with the investment returns in a beneficial way.

Each month (with the exception of July and August) the Tax Discussion Groups in Croydon & South East London meet to discuss client tax issues on a no-names basis. These meetings are free to attend & normally cover over a dozen tax issues raised by those attending.

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