According to a discussion paper attached to the Food Harvest 2020 report issued by the Department of Agriculture, Fisheries and Food “Both the abolition of EU milk quotas in 2015, and the annual quota increases under CAP Health Check, present Irish milk producers and the industry with an opportunity to respond to this increased demand and grow their businesses in a sustainable fashion.”Another part of this discussion paper states “EU beef and veal production is expected to decline by almost 5% by 2015. This will lead to a supply gap within the EU estimated at 600,000 tonnes by 2015 creating opportunities for efficient Irish beef producers in the high value EU marketplace.”
Farmers who are looking at the opportunities presenting themselves over the next few years will need to consider what is the most tax efficient way to progress.
Personal taxes are increasing every year and, for a farmer who wants to expand his business, incorporation may be the way forward.
ADVANTAGES OF INCORPORATION:
Company profits are taxed at 12.5% whereas a sole trader is taxed at between 31% and 55%.
However company directors must pay PAYE/PRSI/USC of between 31% and 55% on their salaries, fees etc.
The balance of retained profits (ie not taken, by the director as remuneration) are taxed at 12.5%.
The after tax profits can be reinvested in the company whereas a sole trader is taxed on all profits whether they are withdrawn or kept in the business.
REPAYMENT OF BORROWINGS
A farmer considering expansion or developing the farm, will probably need to borrow money.
It is more efficient to borrow through a company as a Director is only taxed on personal drawings whereas a sole trader is taxed on all profits as set out below.
Therefore the company has to earn far less income than a sole trader farmer to repay a loan.
A sole trader farmer paying 55% tax will have €45 in every €100 after tax to repay borrowings
A company paying 12½% corporation tax will have €87.50 in every €100 after tax to repay borrowings.
Directors’ loan account
It is unlikely the Company will be in a position to pay for the assets taken over from the directors at the date of transfer so this will create a directors loan account which can be repaid to the director tax free when funds have been accumulated, particularly where the business plan has forecast sizable profits after incorporation.
This is a once off opportunity so it is crucial that the farmer makes the most of this by ensuring it is planned correctly.
Some farmers may be in a position to transfer goodwill to the company which will again increase the size of their Loan account. This would be relevant if the farmer for instance is known for breeding pedigree animals and a value could be put on it.
A farmer over 55 years of age who qualifies for retirement relief from Capital Gains Tax, may also transfer some land into the company as this will increase the size of their Directors Loan account.
LOSS OF OFFICE/PRSI BENEFITS FOR SPOUSES
Directors will be entitled to a lump sum tax free payment for loss of office when they retire.
If the spouses are paid a salary by the company, they will pay PRSI. This should entitle them to a contributory state pension in their own right on retirement.
DISADVANTAGES OF INCORPORATION
Directors’ Remuneration equals profits
If the farmer is drawing all the profits as remuneration, then there is no point in incorporating as he/she will not benefit from the 12.5% rate.
TRANSFER TO THE NEXT GENERATION
One of the main drawbacks of incorporation is the transfer to the next generation when the farmer wants to retire. It is more complex if the assets are in a corporate structure.
To make things less complicated, the land and buildings owned by the farmer are normally leased to the company with the farmer receiving rental income. It was noted above the circumstances in which it may be tax efficient to transfer some land into the company’s name
CESSATION OF SOLE/PARTNERSHIP TRADE
The farmer will have to consider the effect of the loss of income averaging on cessation
All loans and overdrafts taken out as a sole trader will have to be renegotiated with the bank in question. Either the banks will transfer them to the company or they will be left as sole trader loans until they are paid off. A new credit facility for the limited company will have to be agreed with the bankers.
It is vital that the farmer takes professional advice before considering whether incorporation is right for them and their family. Most farms have been handed down from parent to child for generations and are family run. It is most important that the final decision rests with the farming family involved once they have all the information at their fingertips to make an informed decision as a family.