Nobody likes paying tax, whether via their business or personally and the question of ‘How can we reduce our corporation tax bill?’ is one we are faced with almost daily. Sadly, the query tends to come when it is either too late to do anything i.e. they are looking at their completed accounts and therefore the corporation tax bill, or they are just weeks away from year end and the magnitude of their tax bill has just hit home.
Corporate Tax Planning
To avoid turning up late to the party, we would always recommend that corporate tax planning becomes an intrinsic part of your business strategy and is discussed at the same point as the financial and performance targets are agreed for the following year, not 10 months into it! Better still, the company has a longer-term tax strategy running out over 12 to 36 months, but we accept this is not always possible for SMEs with short order books or little or no financial management skills in house.
Whilst long-term tax planning forms a utopian vision, awareness of the simple strategies and routes that can be applied in-year to mitigate tax is a good starting point.
What reduces corporation tax?
Corporation tax is calculated on profits and so the obvious answer is to reduce your profits, which sounds odd, doesn’t it? Surely the aim is to remain profitable? Therefore it becomes a cat and mouse game which means the company still makes the profits, but they are either put to effective use in the business or tax efficiently distributed to shareholders/owners.
Here are four traditional methods of reducing corporation tax
- Invest it as cash – A business can make an investment which either puts the money beyond reach for a defined period or is part of the long-term growth strategy. Examples may include tax efficient seed investment schemes or bonds
- Invest in assets – Buying plant, machinery, technology or even commercial property is a good way of reducing taxable profits. There are annual allowances and even tax reliefs covering this form of investment.
- Pensions – Transferring money to the owners and directors pensions, either as regular contributions or one-off lump sums reduces the profit but it obviously remains a long-term method of managing tax commercial and personal liability. Any contribution to a pension fund must be declared and paid simultaneously.
- Donations/Corporate Social Responsibility (CSR) – Donations are allowable expenses, but there are some caveats around the type of organisation receiving the funds and of course this is very much an altruistic approach – preferring to give to a good cause rather than HMRC…!
What expenses cannot be used to reduce corporation tax?
The four examples given above are not an exhaustive list of corporation tax mitigation measures but they do apply to most companies. However, whilst these and various other tools can be used to reduce corporation tax, nearly all permissible options will come with some form of allowance or threshold. Once you exceed the threshold you will once again begin to pay corporation tax on the remaining profits. In some cases, these allowances are so big that it is near impossible for a typical SME to exceed them, but before assuming there is no ceiling it is worth checking.
Away from exceeding limits on allowable expenses, there are a few items that are added back to the profits ahead of the calculation of corporation tax. The most obvious example of this is corporate hospitality or client entertainment. Any money spent on entertaining clients and customers simply goes to reduce cash, not taxable profits.
Based on search data to our website, this series of blog posts is designed to answer some of the most common ‘how to’ queries around setting up, running a company and managing your personal and commercial tax affairs. If there is a particular question you would like us to answer, please contact us today. Click here to view all the articles in this series.