How are profits extracted from a company taxed?
Income or capital?
In most cases, you will be caught for income tax at 41% on income you extract from your company. If this is taken as given, then it becomes more attractive to extract income in a form that can be easily sheltered. Another option is to extract capital, through an approved share buy-back, or complete liquidation of the company. Unless combined with retirement relief, such a capital extraction will be taxed at 33%.
Rent
You can extract profits by renting a premises to the company. If the rent is at a commercial level, your company gets a tax deduction, and you are taxed on the rent. You can shelter the rent with interest or tax incentive property.
Loan to company
You can lend money to the company instead of investing in shares. The company can then repay the loan without tax implications. You can also charge commercial interest on the loan.
Salary
As director or employee, you can take a salary from your company.
As owner-director, you pay class S (self-employed) PRSI at a flat rate of 4%, plus USC at up to 7%. You can shelter income by having the company make pension contributions on your behalf.
As an owner-director, you must file a self-assessment tax return before the return filing date. Unless you have substantial non-PAYE income, you should not need to make a preliminary tax payment, as the PAYE deducted will cover your liability.
As a non-owner director, you will generally pay class A (employee) PRSI at 4% plus universal social charge at up to 10%. Your company will also pay employer’s PRSI at 10.75% on earnings above €356 per week, or 4.25% on earnings below €356 per week. You can shelter the income by maximising your employee pension contributions to your percentage limit (see 2.23). You can also access employee share incentive reliefs: share options acquired through a save as you earn scheme, shares acquired through a profit sharing scheme or share purchase scheme (see 2.24).
Your company must also deduct PAYE and PRSI from your salary and pay the amounts deducted each month to the Collector-General. The salary is tax-deductible to the company.
Termination payment
It may be permissible to pay a small salary for several years, followed by a sizeable termination payment.
Benefit in kind
You can give yourself a company car and other benefits, and these are generally taxable (see 2.22). Not taxable are: free bus/train tickets, subsidised on-premises crèche facilities, travel and subsistence expenses paid in line with civil service limits, employer’s contribution to the employee’s pension scheme.
Dividends
You can pay yourself a dividend from the company and, if you are not a controlling owner-director, this is an attractive alternative to salary. However, unlike salary, a dividend is not tax-deductible to the paying company. It is a payment from after-tax profits to the company’s shareholders. If the shareholder is resident in Ireland, the company must also deduct DWT from the dividend and pay that tax to Revenue.
You get a credit for the 20% tax withheld against your (41%) tax liability. As the dividend is unearned income, it cannot be relieved by pension contributions.
Loan from company
Your company is “close” if it is controlled by five or fewer participators or by participators who are directors. A participator broadly means a shareholder or loan creditor of the company. If your close company makes a loan to you as participator, it must withhold income tax from the amount of the loan and pay that income tax to Revenue.
If your company writes off the loan, you are treated as receiving, at the date of the write-off, income equal to the amount written off, grossed up at the standard rate of income tax. The company must pay the income tax to the Collector-General.
Approved share buy-back
Your trading company (or holding company of a trading group) can buy back your shares in order to benefit the company’s trade; on doing so, the payment for the shares is treated as capital (instead of an income distribution) in your hands.
To qualify for this capital treatment, you must:
(a) be resident and ordinarily resident in the Republic of Ireland for the tax year in which the shares are bought back,
(b) have owned the shares for the entire five year period ending on the date of the buyback (ownership by your spouse counts as ownership by you),
(c) substantially reduce your holding in the company, i.e., your shareholding and that of your associates (together with your entitlement to a share of the company’s distributable profits) after the buyback must not exceed 75% of what it was before the buyback,
(d) not be connected with the company after the buyback, i.e., you must not have or be able to control more than 30% of the company’s issued ordinary share capital, issued share capital plus loan capital, voting power, or assets available to shareholders on a winding up.
These conditions are removed if you are forced to sell your shares to pay inheritance tax arising on those shares, or to repay money borrowed to pay such inheritance tax.
Winding up
If your company permanently ceases business and is (voluntarily) wound up, each shareholder receives a repayment of his/her capital investment. Any capital growth in that investment is taxed in the hands of the shareholder at the capital gains tax rate of 33%.
Sale of asset to the company
It may make sense, in certain circumstances, to sell an asset to the company, particularly if little or no CGT will arise on the sale of the asset.