Tax planning seminar delivered to Mercia on 14 May 2012

A COMMERCIAL APPROACH TO TAXATION ISSUES & ASSET PROTECTION

Derek AndrewsAITI Chartered Tax Advisor & Principal of

Andrews Tax Consulting

`Pop Quiz’

Pop Quiz #1

• Client bought a factory in 2006• Let on long-term lease to a printing

company that has ceased trading• Negotiations have taken place to

surrender the lease for a fee of €300k

IS THE SURRENDER PAYMENT LIABLE TO INCOME TAX OR CGT?

Pop Quiz #2

• Father transfers two properties to his children (one each) at different times in the same tax year

• First disposal (JAN) triggers a gain of €500k

• Second disposal (JUN) triggers a capital loss of €400k

WHAT AMOUNT IS LIABLE TO CGT?

Pop Quiz #3

• Husband and wife jointly own a warehouse• Used by husband in business (20 years)• Husband dies• Wife takes over running of the business• Two years later transfers warehouse and

business to children

WHAT RELIEFS WILL BE AVAILBLE ON TRANSFER?

Pop Quiz #4

• John obtained a divorce from his first wife in 2004

• Since 2007 he is living with his new partner• They bought a home together but have no

children• His Will states that his assets are to pass to

the children from his first marriage

DOES JOHN’S PARTNER HAVE ANY LEGAL ENTITLEMENT IN THE EVENT OF HIS DEATH?

Pop Quiz #5

• Paul is 52• He owes €6m on various property

investments (CMV c€1m)• He is the only child of wealthy parents

WHAT STEPS CAN BE TAKEN TO AVOID FUTURE INHERITANCE BEING SEIZED BY HIS LENDER?

Tip #1 – Commercial Asset Protection

Asset Protection

• Companies with cash

• Concerned about ring-fencing reserves from trade risk and liquidity risk

• Don’t wish to cash extract because of high rates of income tax

Asset Protection

• Companies also concerned about keeping private details of accumulated reserves and current profits.

• From competitors, employees, landlords, other family members, journalists,

• & others.

Asset Protection

• Key to solving problem is to separate ‘cash’ from the ongoing trade.

• Possibilities include:-

– Hive out trade to Newco (no audit)– Insert Holdco (management charge – problematic)– Insert Holdco (divi cash up – how to avoid

surcharge?)– Isle of Man/Jersey ‘blocker’ structure

Asset Protection

• Cost effective solution:-

Asset Protection

Step 1 - Establish Group

• Setup HoldCo – alter M&A to provide for acquisition of target (stamp duty requirement)

• Effect share swap – relief from CGT under section 586 TCA 1997

• Submit statutory declaration for SD relief under section 80 SDCA 1999

• Entitlement to Revenue concession from tax under section 130 TCA 1997

Asset Protection

Step 2 - Pay Dividend

• Note payment of dividend not liable to corporation tax in HoldCo

• But will be liable to close company surcharge (section 440 TCA 1997)

• With planning dividend can be “taken out” of scope of surcharge

Asset Protection

Variant

• Use UnLtd HoldCo

• No requirement to file annual accounts

• Distribution by TradeCo not disclosed on abridged accounts filed with CRO

Asset Protection

Result

• No disclosure of accumulated reserves

• Separation of cash from liquidity, trade and other risks

• No tax leakage

• Cheap – beware ‘statutory audit’

Tip #2 – Use of Holdco to avoid Tax

Use of HoldCo to avoid CGT

• Holding companies are often avoided in Irish businesses

• They are seen as un-necessary, expensive and a compliance burden

• In fact, holding companies are extremely useful for tax purposes especially in a business sale

Hold Co

Shareholder

Trade Co


Tip #3 – Cash Extraction

Cash Extraction

Remuneration – beware “excess” amounts

Dividends – not efficient as no CT deduction

Employer Pension Contributions

Loans – incorporation of professional firms

Purchase of Shares

Rent of Property

Sale of Property to Company

Employment of spouse and children

Mileage and subsistence payments

Liquidation

Termination Payments

Cash Extraction

Tax Planning:-

Transfer of undertaking and liquidation

Cash Extraction

Cash

Irish Trade Co

Irish Trade

Shareholder

UK Sub

UK Trade

Cash Extraction

Irish Trade CoNew Irish Co

Shareholder

UK Sub

UK Trade

Irish Trade

Cash

Cash Extraction

Tax Planning:-

Section 817

Liquidation => income tax event unless for bona fide reasons and not to avoid tax

Revenue view that this structure triggers income tax.

Cash Extraction

Tax Planning:-

Section 817

How to defeat provisions?…an example

Cash Extraction

Tax Planning:-

Redemption of Shares

Cash Extraction

New Hold Co

Shareholder

Irish Trade Co

Cash Extraction

Tip #4 – Personal Asset Protection

Asset Protection

Conern for 60s and 70s generation

• Individuals between approx 40 and 55• Entitled to future inheritance from parents• Insolvent or bankrupt• If inheritance or gift taken will go to satisfy creditors• Solutions?

Asset Protection


• Exclude from entitlement (beware s.117 SA 1965)• Skip a generation – ie to kids (parent as guardian)• Disclaim• Warehouse entitlement in Trust/other beneficiaries• Deed of family arrangement• Use Secret/Discretionary Trust (beware s.117 SA 1965)• Life interest in assets

Asset Protection


• Spend thrift clause in Will/Trust• Condition in Will Trust

Other issues

• Protecting assets from co-habitants (discretionary entitlement after 5 years or 2 years with children)

Tip #5 - Director’s Loans

Benefit-in-kind / directors loans• Many shareholders/directors

in SME have legacy director’s loans

• Limit on director’s loans of 10% of ‘relevant assets’ to avoid reporting to ODCE

• Also tax implications – withholding tax (20%) and BIK

Benefit-in-kind / directors loans

Possible Solution

Convert director’s loan from debtor to intangible asset

Benefit-in-kind / directors loansExample - Facts

• Mary own’s 100% of ABC Limited and has taken a director’s loan of €100,000 to invest in an associated but unconnected second business - DEF Limited.

• At the year end 30 June 2011 the amount borrowed exceeds 100% of relevant assets in the company and she does not have capaity to repay the loan.

Benefit-in-kind / directors loansExample – Solution

• Amend M&A of DEF Limited to create new class of preference share.

• Share will entitle bearer to assets on winding up and dividends - but carries no voting rights.

• Have DEF Limited issue shares in itself to ABC Limited

Benefit-in-kind / directors loansExample – Result

• Director’s loan no longer shown on face of B/S.

• Company no longer in breach of 10% rule – ODCE happy.

• BIK & close company tax issues resolved.

Benefit-in-kind / directors loansTax Issues – For Company - Section 438 TCA 1997

• Where a “close company”• otherwise than in the ordinary course of a business

makes any loan• to an individual who is a participator (or an associate

of a participator)• the company deemed to have paid … an annual

payment• Annual payment = Amount Paid / 80% x 20%

Benefit-in-kind / directors loansTax Issues – For Company – Section 438 1997

• Can a company cease to be a ‘close company’?

• For the purposes of the Corporation Tax Acts, “close company” means a company under the control of 5 or fewer participators, or of participators who are directors,

• but does not include inter alia a company not resident in the State (Section 430(1))

Tip #6 – Professional Close Company Surcharge

Professional Close Co SurchargeSection 441 TCA 1997 provides…

• Where for an accounting period of a “service company” the aggregate of–

• the distributable estate and investment income, and• 50 per cent of the distributable trading income, • exceeds the distributions of the company for the

accounting period, • there shall be charged on the company an additional

“surcharge” of 15 per cent of the excess.

Professional Close Co SurchargeWhat is a “service company”?

• Section 441(1) defines a “service company” as

• a close company whose business consists of or includes the carrying on of a profession or the provision of professional services,

• or a company a close company whose business consists of or includes the provision of services or facilities of whatever nature to such a company.

Professional Close Co SurchargeWhat is NOT a “service company”?

• Where the principal part of a company’s income which is chargeable to corporation tax

• is not derived from carrying on a profession, providing professional services,

• or having or exercising an office or employment, or providing services or facilities.

Professional Close Co SurchargeIncorporation of Accountancy Firms

• Provided >50% of income is not derived from ‘professional activities’

• Not liable to close company surcharge.

• Examples of non-professional activities include book-keeping, preparation of VAT returns and payroll.

Tip #7 – Use of Discretionary Trust to pass on family home

CAT Planning

• Parents wish to transfer family home to child for him/her to reside in after death

• Child living elsewhere & does not with to live with parents

• Inheritance of property may give rise to inheritance tax.

CAT Planning

• Section 86 CATCA 2003

• Applies to gift/inheritance of dwelling house

• Beneficiary must occupy property for 3yrs before date of gift/inheritance

• Cannot have an interest in any other property

• Must retain property for 6 years

CAT Planning

Planning Point:

• On death have family home pass into a discretionary trust

• Instruct – by letter of wishes – trustee (probably executor of Will) to hold asset until intended beneficiary has occupied property for 3 years

• Then make appointment => crystalise inheritance.

CAT Planning

• Note date of inheritance is determined by section 30 CATCA 2003

• Valuation date can be deferred if asset passes into a discretionary trust

• This is where property is held on trust to accumulate capital and/or income for the benefit of a person

• Trustees (executor) has power to make appointment.

CAT Planning

• On inheritance value of property is IGNORED for CAT purpose (ie is not taxable and does not erode CAT threshold)

• Net saving of 25% (based on current rates)

• Beware discretionary trust tax charges (5% in total)– Initial levy 6% (but reduced to 3% where asset held for

<5years)– Annual levy 1%

Tip #8 – Tax Trap on Life-time gift of family home

CAT ‘Tax Trap’

• Many individuals transferring family home to children to safeguard the asset from banks and other creditors

• Steps to effect transfer are straight-forward

• Usually a right of occupancy is provided for in Deed of Conveyance in favour of parents

• Protect parents from children dealing in asset or changing locks!

CAT ‘Tax Trap’

Let’s examine the steps from a tax perspective

• Disposal of home by parents => CGT but PPR relief

• Gift received by children => CAT at 25%

• Right of residence must be valued to quantify gift taken

CAT ‘Tax Trap’

Example -

• John transfers his family home to his two children Susan and Mary (who each have a full threshold of c€330k)

• Unencumbered value of property is €1.2m

• Value of benefit is €600k each less value of right of residence. Unless ROR >€270k children will have CAT bill.

CAT ‘Tax Trap’

Example – Common mistake

• Mistake often made by lawyers and accountants is to provide for a mere ‘right of residence’ in Deed.

• A mere right of residence is valued by Revenue at 10% of market value of the property.

• In the example, this would value the right at €120k resulting in a taxable benefit (after CAT Threshold) of €150k each.

CAT ‘Tax Trap’

Example - Solution

• Ensure Deed provides for an “Exclusive” right of residence.

• An exclusive right of residence is by concession treated as a life-interest in property.

• In this case if the children are in their 20s and the parents are in their 50’s the right of residence would be valued at c€540k resulting in a tax saving of €75k.

Tip #9 – Accessing 12.5% rate of corporation tax

12.5% rate of corporation tax

• Multi-national companies operating in Ireland to access 12.5% rate of corporation tax.

• Often locate IP here but do not establish ‘foot-print’.

• Use accountants office as registered office any may one staff member but not qualified to manage IP.


Taxation of IP activities in Ireland :-

– 12.5% if Trade– 25% if foreign trade, or– 25% if passive

• In 2009 and 2010 Revenue published a number of opinions on the classification of activities as trading.

• Greater focus on IP activities from 2011.


Revenue opinions on trading:-

• Central to decisions is the requirement for ‘substance’ in Ireland

• In assessing substance Revenue look for:-– Irish based employees with appropriate skill-sets– Individuals with responsibility for monitoring of affairs and

execution of legal documents– If main activity outsourced – process managed by suitably

qualified directors based in Ireland.


Facts that resulted in unfavourable rulings include:-

• No suitably qualified employees in Ireland• Other companies in group primarily responsible for

target, evaluation and negotiation of contracts• No main players in business resident in Ireland• Key decisions being taken elsewhere (ie outside

Ireland)


Maximising the case for trading:-

• It is critical that employees are engaged in Ireland with appropriate skill-sets having regard to the business

• The business should have an office, phone line, network, etc.

• Contemporaneous records of the role of the Irish company in decision making

• Properly constituted and active Board• Evidence of activities being managed out of Ireland


Should an opinion be sought:-

• YES

• Revenue will be wary of companies operating in Ireland that have not sought an opinion.

Where have our profits gone?

Tip #10 – Tax-efficient capitalisation of company Balance Sheet

Tax-efficient capitalisation

• Irish companies generally poorly capitalised relative to European standards.

• With the down-grading of Irish debt, companies have to pay in advance or on delivery for imports.

• Greater scrutiny of balance sheets and demand to re-capitalise (without triggering tax)


• In order to recapitalise a company retained profits must be convered into equity

• Without tax planning this process can trigger significant tax at shareholder level

• This tax exposure can be managed by the allotment of bonus shares to existing shareholders


• Properly structured – and provided a number of conditions are met

• The allotment of bonus shares will not be taxable in the hands of shareholders as a scrip-dividend

• When implementing a bonus share structure to recapitalise a company beware Irish anti-avoidance rules


• Section 130 (matters to be treated as a distribution)

• Section 436 (expenses for participators)

• Section 816 (taxation of shares issued in place of cash dividends)

• If in doubt, seek a ruling from Revenue

For your tax needs contact

Derek AndrewsAndrews Tax Consulting

12 Merrion Square

Dublin 2

P : 01 6316075

E : [email protected]

Tax planning seminar delivered to Mercia on 14 May 2012

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Transcript of Tax planning seminar delivered to Mercia on 14 May 2012