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Top Ten Tax Tips

Tax Considerations on Starting a New Business

When setting up a new business tax issues need careful consideration.

Some of the main issues to consider include:

  • Trading as a sole trader or through a company.
  • Tax rates.
  • Tax on business transfer.
  • Tax registration.
  • Payment and filing returns.
  • Close companies.

Trading as a sole trader or through a company

The optimum time to incorporate a business generally depends on the priorities of the business owner, their expectations for the future, size of the business and the type of business.

A business should be incorporated only when it generates more taxable profits than the owner needed for his annual income.

Sole traders also need to consider some non tax issues such as:

  • The attraction of having limited liability.
  • Avoiding the obligation of an annual audit as the definition of a small company for audit purposes has been extended significantly.
  • The increased legal responsibilities on directors, shareholders and businesses on incorporating.

A business could be more attractive to either future purchasers if it is a company. The stamp duty exposure on the purchase of an incorporated business might be much lower than on the purchase of an unincorporated business.

Tax rates

It is important that when the company is formed the correct tax rates are applied to its profits. If the company is managed and controlled from Ireland and is engaged in a trade other than an “excepted trade” it is entitled to avail of the 13.5% corporation tax rate. Also new companies may be exempt from corporation tax for 3 years subject to conditions.

The profits of a sole trader taxed at the marginal rate are 42%. However the income levy, PRSI and the health contribution can add another 9% or more.

The 13.5% corporation tax rate or 3 year exemption is appealing – however one must also consider the potential exposure to the close company surcharge if trading through a company and the problem of extracting cash from the company in a tax efficient manner.

Tax on business transfer

An existing sole trader needs to be aware that the transfer of a trade from the sole trader to a company (a completely separate entity) can crystallise tax liabilities e.g. capital gains tax. By availing of tax reliefs and tax planning – businesses can potentially incorporate without triggering tax costs. For example Section 600 Taxes Consolidation Act 1997 allows a bona fide transfer of assets from a sole trader to a new company in exchange for shares in the new company without a charge to capital gains tax arising. However a 6% stamp duty bill for the company on the acquisition of the goodwill of the existing business is possible if the transfer is not planned properly.

Registration

A form TR2 is used to register the company for corporation tax, PAYE and VAT. Registration should be done as soon as the company is formed and is about to commence its activities.

Tax payment and filing returns

A company must submit a return of its profits and chargeable gains to Revenue nine months after the end of the accounting period and no later than the 21st day of that month. If a company fails to submit its return on time there are penalties by way of surcharges.

A delay will also trigger a restriction of a large number of reliefs and allowances claimed by the company.

Companies are now obliged to pay 90% of their tax liability for an accounting period as preliminary tax in one instalment on a day 31 days prior to the end of the accounting period but no later than the 21st day of the month in which that day falls.

Companies that qualify as “small companies” have a choice on whether to base their preliminary tax calculation on 90% of their expected corporation tax liability or 100% of the liability of the previous accounting period

Disadvantages of being a close company

Certain benefits provided to participators (e.g. shareholders and their familes) are treated as distributions. This means that no corporation tax deduction is available to the company for the expense and it must apply 20% dividend withholding tax to the deemed distribution payment.

A close company surcharge of 20% of a company’s distributable rental and investment income is imposed if the company has not made a distribution of the relevant income within 18 months of the end of the accounting period.

If the close company is a professional services company e.g. an engineering company a surcharge of 15% may arise on half the distributable trading income of the company if a distribution is not made within the same time period.

Close company surcharge planning

No surcharge applies if there are no distributable reserves in the company.

Liquidations of close companies can be complex, and extreme care is needed if the company is exposed to a close company surcharge, especially in the case of voluntary liquidations. Once a liquidator is appointed, such companies cannot make distributions. Therefore a close company about to go into liquidation could consider paying a dividend before appointing the liquidator.

Pension contributions and additional or increased salaries by a service company on behalf of the directors also reduce the company’s surcharge exposure as they reduce the overall taxable profits.

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