Question about providing funding for a Ltd Company

Lets say that two friends are planning to go into business together and that each has borrowed 10K to use as start up capital

The business will be in the form of a Ltd company - with the share capital being divided 50 - 50.

They both have repayments on their respective 10K loans.

My question as follows:

Would they be well advised to transfer the 20K under a loan agreement? By this I mean as it would relate to the tax implications?

For instance one of the directors is already employed with full time job (and will not be undertaking any paid duties for the company). Thus if he made a loan to the company; how would the repayments be treated for tax purposes i.e. would he have to pay Income Tax on them?

We're planning to get an accountant in the very near future but I just thought I'd ask the group first.

Best Regards

Graeme Nicholson

Reply to
Graeme Nicholson
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What's the alternative to a loan in this case?

Surely the only other way to do it is to have them put the money in as share capital; but then there is no interest and no repayment - they only get dividends.

Or have I missed the point?

Reply to
Andrew McGee

If the loans to the company were interest free, there should be no tax implications. But make sure the paperwork is correct to ensure that the IR will not classify it as net remuneration and thus subject to PAYE & NI on the grossed up amount(s).

Reply to
Doug Ramage

There is no VAT on loan interest, so if this is leading to where it normally does, forget it. :-)

There would of course be no tax on any capital repayments, only on interest received. He would have to pay tax on that amount of interest he receives from the company, which exceeds the interest he pays to the lender. If the difference is zero, there is no benefit to be taxed.

But if the company pays more interest than the lender takes, then he does receive a taxable benefit. Ah, wait, I think I can see where it's leading. Are you thinking what if the company profit is in the £10k-£50k band and therefore pays corporation tax at a marginal 23.75%? Then if the company pays the directors via excessive loan interest what it would otherwise pay as dividends, there could be a tax saving, because the company would not be taxed on interest (it's an expense) and the director would have to pay tax at the savings interest rate of 20%/40%, whereas if the same excess were paid as dividend, it would not be an expense to the company and so would be taxed at 23.75%, with the director then paying an extra

0%/25% on the dividends received. The effective rate of tax to the director would be 23.75%/42.81%, and so its cheaper to get the dosh as interest than as dividend.

The position is reversed where the company profit is below £10k or above £50k but below £300k, since the corporation tax rates are 0% (giving an effective 0%/25%) and 19% (giving an effective

19%/39.75%). Since in both cases the effective rates are below 20%/40%, he's pay less tax by taking the dosh as dividends.

Above £300k, and especially if below £1500k, the situation is reversed again, and he'd pay less tax by taking the money as interest.

Chances are the IR have this sussed and will re-classify any excessive interest as dividends if it suits them.

Reply to
Ronald Raygun

With a loan, you have a slightly better chance of getting the money back if the company goes bust.

Also, it is easier to get the capital repaid. With dividends, you would have to wait until the company makes profits before you can get the money back. With loans, you can get the money back any time, subject to available funds.

Reply to
Jonathan Bryce

Sort of makes you wonder why people bother with shares at all. You have much more rights as a bond holder.

Reply to
Max Power

accountant,

Actually we've already started the company via

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What sort of areas do you think we should get advice on? For instance what should I say when I ring up the accountant to arrange for an appointment?

Basically we're just a trading company. That is I buy goods from the US then and sell them via Ebay.co.uk (and we do plan to have our own website in the near future).

Reply to
Graeme Nicholson

only get

Hi Andrew, no point - this was just an honest question. You see I wasn't sure if the repayments would be subjected to Income tax or not

I thought that perhaps we'd just have to transfer the 20K as a sort of "gift". Then that we would both have to repay the loans with money taken as wages from the profits - which didn't really appeal.

Reply to
Graeme Nicholson

share

Not today Ronald - although that "same old scheme" keeps poping to mind from time to time (one day I'll get it to work or least understand why it can't)

full

pay

of

interest

This is just what I wanted to hear.

Nope, there was no ulterior motive to the question, wasn't thinking about CT whatever. I'm hoping that if we just pay ourselves the absolute minimum and that all the profits are reinvested in stock then CT shouldn't really kick it. Then we work just work on building a "nest egg" and then figure out how we can get our hands on it in it in the most tax-efficient manner possible.

Reply to
Graeme Nicholson

It doesn't quite work like that. If the company makes £20k profit in year 1, there will be CT of £2375 to pay. You can therefore only re-invest £17625.

The usual method is to pay yourself dividends instead of salary. If your friend already has a normal job and you don't, you should pay yourself a salary of £4615, thereby escaping both income tax and NI, while nevertheless being credited with NI-qualifying years towards your state pension. Pay yourself the rest as dividends. They will be free of income tax until you reach the higher rate tax threshold, whereupon the excess will be taxed at 25%, but no NI is payable.

Even if you don't need the money, it's probably best to pay yourself the maximum possible dividend which net profits (and your non higher-rate taxpayer status) allow, and the re-invest the money in the company as a loan. That way you can get the money out again in the future without it being taxed (since it is already yours).

Huh?

Reply to
Ronald Raygun

For small owner managed companies, they generally don't.

The advantage of shares to the company is that they don't have to pay anything if they don't have the money. It works out more expensive though. The advantage to the shareholder is that they get a vote.

Reply to
Jonathan Bryce

No you don't. For starters, you could sell the 100 £1 shares for £200 each if you wanted to, and you could also lend the money to the company rather than use it to buy shares. It is probably better to lend it anyway.

The bank is going to ask for a personal guarantee whatever way you do it.

Reply to
Jonathan Bryce

wrote

I thought if:

The company makes 20k profit in year 1

We buy stock with the 20K and sell this in year 2

This would be allowable business expenditure so "the 20k in year

1" would be deducted leaving 0 liable to CT

Is this not correct?

I've heard of this but to be honest I don't really understand (or at least not really in this case).

I know of course that it is usual for shareholders to receive a share of the companies profits and that this is generally paid via a dividend. That said I always assumed that this type of investment would be subject to some kind of tax.

For instance if someone buys say 100 shares of ICI:

Would they not pay tax on the dividends? And further be liable for Capital Gains on any increase in the share value?

Do the rules differ between PLC and LTD?

should

years

So could I pay myself a dividend of 26885 and this would be free of any type of tax?

So 26885 + 4615 salary = 31500 per year for me free of Income tax and NI

subject to

Perhaps they meant Capital Gains tax instead of CT (does this make more sense?).

Reply to
Graeme Nicholson

In message , Graeme Nicholson writes

No. Buying stock isnt allowable business expenditure, only the cost of the stock items you actually sell is allowable.

Reply to
john boyle

In message , Jonathan Bryce writes

If they borrow the dosh as individuals then they wont.

Reply to
john boyle

Yes, this is most definitely not correct.

Buying stock is not an allowable business expenditure in the way you think. Profits are the difference between sales and purchases, but when working out the profit it's only the purchase cost of goods sold that you deduct from sales income, not the purchase cost of stock in hand.

You start with £20k invested cash which you turn entirely into stock, which you sell at 100% mark-up and end up with £40k cash. That means you've made £20k profit. It makes no difference whether you turn half or all of the money into new stock, the company still owns £40k worth of stuff (being either money or stock) which is £20k more than it started with. It would be unwise not to convert all the cash into new stock, unless you're confident you will have generated at least enough cash from new sales by the time the tax on profit becomes due.

Yes, but dividends come with a built-in tax credit which is enough to meet the income tax liability of those dividends unless the recipient is in the higher tax bracket. So a "normal" taxpayer pays no tax on dividend income.

Yes, but not until they're sold.

No, but with small LTDs you generally only issue shares to a negligible nominal value, and inject the serious cash as loans instead of share capital.

Yes in principle, not quite correct with the old numbers, old chap, which seems to be one of your weaknesses (explains why you can't understand why VAT scams are impossible).

The higher rate tax threshold is £30500 *of taxable income* (you seem to have inflated it by £1000 for some reason), and the £4615 personal allowance is *in addition*. Therefore you can pay yourself £4615 as salary free of income tax and of NI, *plus* £30500 of dividend income, on which there is no NI anyway, also free of IT. This assumes you have no other income whatsoever, such as from bank interest or capital gains. On each extra £1 of dividend you would then pay 25p income tax, as a result of a process too complicated for you to understand.

No, I think he meant what I illustrated above, that the sales profit remains taxable even though the money by which it is represented has been converted into stock.

Reply to
Ronald Raygun

No. Lets look at a simple example. You buy widgets for £1 each, and sell them for £2. No other expenses. In year one, you buy 20,000 widgets, and sell them all. At the end of the year, you buy another 20,000 widgets for sale next year.

Your accounts would look like this:

Sales 40,000

Cost of Sales

Purchases 40,000 less closing stock (20,000) ------ (20,000) ------ Profit before tax 20,000

Tax (2,375) ------ Retained Profit 17,625 ===== Next year, you sell these widgets, and buy another 20,000 at the end of the year:

Sales 40,000

Cost of Sales

Opening stock 20,000 Purchases 20,000 less Closing stock (20,000) ------ (20,000) ------ Profit before tax 20,000

Tax (2,375) ------ Profit after tax 17,625

Reserves b/fwd 17,625 ------ Reserves c/fwd 35,250 =====

Reply to
Jonathan Bryce

Remember it is £30500 of dividend income including the notional 10% tax credit, so a bit less in your hand.

Reply to
Jonathan Bryce

Ah, OK. So to escape all tax you must to pay yourself no more than £27450 of dividends, which count as £30500 gross minus 10% tax treated as paid.

So a total of £4615 salary plus £27450 dividends, or £32065 all told.

Then the next £9 of dividends you pay yourself will count as £10 gross, on which higher rate tax is due at the special dividend rate of 32.5%, but of which 10% are already deemed paid, leaving 22.5% payable, but

22.5% of £10, which is 25% of £9.
Reply to
Ronald Raygun

year

purchases,

goods

I suppose it does make more sense when you say it like this.

So quoting from Letts Taxation 16th Ed

Allowable expenditure - a summary

The following is a list of the most common items of expenditure which are allowed as an expense in computing taxable trading income.

a) Gross wages and salaries, and employers NIC b) Redundancy payments c) Cost of materials, components and *goods purchased for resale*

So could it have read "goods purchased for resale but with the deduction being given in the tax year in which the goods were sold"?

Reply to
Graeme Nicholson

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