With a possibility of Capital Gains Tax increasing, is now the time to take action?
Extra Cash in your business? What are the Implications?
21 August 2020
Some businesses may be lucky enough to have strong cash reserves in the bank, which have been built up over a period of time through successful trading, or kept for ‘just in case’ purposes. While excess cash is often a welcomed position to be in for cash flow reasons, some of the commercial and tax implications might not be too favorable depending on your medium to longer term objectives.
So, what are the implications?
Significant cash reserves on your balance sheet may impact your company ’trading’ status for valuable tax reliefs. This might mean you’re ineligible for the 10% Capital Gains Tax rate provided by Business Asset Disposal Relief (formerly known as Entrepreneur’s relief) or possible Inheritance Tax (IHT) free transfers provided by Business Property Relief.
In broad terms, the non-trading assets on a company’s balance sheet (such as excess cash) can’t exceed, or in some instances, even be equal to the proportion of trading assets. Cash can often cause a company to fall into the ‘non-trading’ category unless this position’s managed.
It’s also important to consider cash reserves in a trading company are at greater risk of claims from third parties or creditors, in the event of a downturn in business.
HOW CAN THIS BE IMPROVED?
There’s a number of ways to improve your cash position, some of these are as follows;
1. Pay out large dividends to the shareholders
Whilst paying a large dividend might achieve the objective of reducing cash in the business, many shareholders might not want the cash personally as there could be significant dividend tax costs.
2. Invest in ‘trading assets’ using the cash
Another option might be to invest in trading assets which could consist of buying a trading premises for the business or even acquiring another business to grow existing trade. This however, might not be suitable for all businesses, especially those who want to invest in ‘non-trading’ assets such as rental property.
3. Review and change the corporate structure
A further option would be to consider whether an alternative corporate structure could help alleviate the cash position more efficiently. Perhaps using a second investment company in such a way that enables you to split the current limited company’s trading and future non-trading activities into two separate entities. This can provide complete flexibility to make business/investment decisions in the future, and potentially provide privacy in relation to total wealth and investment assets. This also allows more flexibility in passing wealth down the generations without an inheritance tax cost, whilst being relatively easy to understand and operate.
This might take the form of having an investment company own a small holding (often 25% or less) in a separate class of shares within the trading company, through which a dividend can then be declared and paid by the trading company to the investment company. The investment company’s then free to invest in assets of its choosing, such as property. The more size-able benefit here, is the trading company would no longer hold the cash on its balance sheet, which could possibly improve its proportion of ‘trading’ vs ‘non-trading assets’, whilst ring-fencing the cash in a separate company.