Setting up a company to receive dividends?

[Brendan Burgess]

A friend of mine claims that his tax advisor has set up a limited company for him to collect and accumulate "his" dividends.

This sounds nonsense to me but he says his fellow directors are doing it as well.

John Doe owns 20% of A Limited a very profitable, dividend paying company.

John Doe sets up X Limited to receive the dividends. It has no other function.
This makes no sense to me unless the shares are owned by X Limited but he insists they are in the name of John Doe. Surely he can't tell the company "Just pay my dividends to X Limited"?

As X Limited's only income is dividends, it pays no Corporation Tax.

He has accumulated a lot of cash in X Limited.

But surely X Limited has to pay a 20% Close Company surcharge on the dividends it receives as he says that they are accumulating it and not distributing it.

Is that a straight 20% of the income received? So if the company gets €100k in dividends, it pays €20k Close Company Surcharge.

And how does he ever get the money out of X Ltd?

As an aside, he says that his fellow directors intend to use the funds in their companies to pay for their children's third level education. Surely any such payments would be subject to Income Tax?

Brendan

 

[thecoffeepod]

Yup , terrible idea. Some shady advice and practice happening (or pointless , whatever way you want to look at it)

Dividends from an Irish resident company are generally chargeable to income tax on the individual investor under Schedule F. They are subject to the individual’s marginal rate of tax, Universal Social Charge (USC), and, in certain circumstances, Pay Related Social Insurance (PRSI)

Directing income arising from an office or employment to a third party (mandating/allocating/routing remuneration) does not exempt that income from the individual’s charge to Irish tax under Schedule E or USC, nor does it remove the obligation for statutory deductions under the PAYE system. While dividends are taxed under Schedule F, the principle of income assignment avoidance generally dictates that the individual who earned the income (or owns the asset generating the income) remains liable for the tax. If the shares are legally in John Doe's name, the dividends are legally his income, regardless of where A Limited pays the cash. For X Limited to legitimately receive the dividends as its own tax-exempt income, X Limited would generally need to be the legal and beneficial owner of the shares in A Limited.

However, If X Limited is an Irish company, the dividends it receives from A Limited (also an Irish resident company) would typically be considered franked investment income. A distribution paid by an Irish resident company to a company within the charge to corporation tax is often exempt from corporation tax.

The 20% Surcharge Rate: The surcharge on undistributed investment income is 20%.

For example

Calculation: If X Limited receives €100,000 in dividends (which are tax-free for normal Corporation Tax purposes but constitute investment income for surcharge purposes) and makes no distributions, it will be surcharged on the full distributable investment income (less any minor allowances).


Then Assuming the full €100,000 is deemed distributable investment income, the surcharge would be €20,000 (€100,000 * 20%).

Exclusion/Relief: The surcharge does not apply if the excess undistributed income is €2,000 or less. Marginal relief applies if the excess is slightly more than €2,000 but less than €2,666.

Therefore if X Limited receives €100,000 in dividends and accumulates them (does not distribute them), it will face a €20,000 Close Company Surcharge on that income.

Accumulating cash within X Limited merely defers the tax charge (via the 20% surcharge) but the funds must eventually be extracted, subjecting them to personal tax liabilities

Any direct payment by X Limited for the personal expenses of John Doe or his immediate family (associates) is highly likely to be considered a taxable event.
Eg Benefit-in-Kind/Distribution: The close company rules explicitly treat expenses incurred by the company in providing benefits or facilities for a participator (John Doe) or his associate (which includes a relative/child) as a distribution to the participator.

This distribution is taxable on John Doe.

Plus Anti-Avoidance via Settlements, Furthermore, specific anti-avoidance legislation counters attempts by close companies to transfer funds to shareholders or family members using trusts or other settlements (Section 436A).

If X Limited were to transfer funds to cover a child's education, the amount received by the relative (child) from the company's assets would be chargeable to income tax under Case IV of Schedule D.

 

[Brendan Burgess]

@thecoffeepod

Thank you very much.

That is absolutely superb in its clear and logical setting out of the issues.

My friend is a very honest and decent person and certainly would not be knowingly evading tax. I have told him that if he has a tax audit and they say to him "Did you honestly believe you could have this income and pay no tax?" the reply of "This is what my tax advisor said" just won't wash.

Brendan