The Fizz! Blog

The problem is often domestic consumption, not business profits

“Annual income twenty pounds, annual expenditure nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery” - Wilkins Micawber

A frequent frustration for accountants (at least, accountants like us who try to help people form a holistic view of their finances, rather than just preparing legally-mandated accounts and returns for signature) is that you generally only really get to assess and consult on 50% of a client’s position. You see the income coming into their business, you see the costs going out, and you see the profits. You’ll have conversations about how the income might be increased, or the costs decreased - or the costs increased so that the income might be increased even more, or the costs increased so that the owner’s life might become happier or more satisfying (or the income decreased so that the owner’s life might become happier or more satisfying!). You’ll see the year-end snapshot of the position of the business (i.e. its balance sheet), and talk about the liquidity of the business, its resilience to short and medium term adversity and the “runway” it has to continue stably paying its owners and workers without persistent worry about short-term cashflow. This is all really useful and important.

However, there’s a similar picture in everyone’s personal life, and you often get little or no insight into that. If an individual or household kept and assessed similar records, they could consider all those same issues, which are just as important in a domestic context - and, for a business owner, considering the interaction of the finances and their own could bring an extra layer of insight. It doesn’t matter so much if there’s little runway in a business if there's masses of it in the owner’s own life, and it doesn’t matter so much if the owner has minimal personal savings if there’s a big reservoir of profits to draw on in her business.

When there’s an incompatibility between income and outgoings, it’s actually often not between the income of a business and the outgoings of the business - it’s just as likely to be between the income of a business and the domestic outgoings of its owner! Often the owner might be fixated on relatively trivial costs in the business and trying to drive them down a bit. But a bigger question than “can I reduce the £50 a month business mobile phone contract?”, and one that would probably unlock greater revelations and behaviour changes, might be - “what’s happening with the £100,000 that’s being drawn out of the business by its owner each year?”.

Unfortunately, we don’t have much of a culture in this country of that kind of personal financial record-keeping, and there’s no outside mandate forcing anyone to do it. On top of that, people often seem to have a more fatalistic attitude about personal and household finances than business ones, and may feel that they simply can’t be materially changed. If you’re a business owner, though, it pays to think about business finances and personal finances as two sides of one coin, not two entirely separate systems.

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I’m about to hire someone - what are the additional costs I need to budget for?

Clients frequently ask how much they need to budget for additional employment costs (by which they generally mean National Insurance and pension contributions) above and beyond the gross salary they’re going to be paying an employee. When creating financial projections, we tend (depending on the purpose of the projections and the level of accuracy merited) to default to 10%. In real life, though, it does depend upon how your workforce is made up.

With your first employee, the best answer is often “very little - it needn’t inform any decision making”. That’s because, at present, the Employment Allowance means that almost all employers are excused from paying the first £4,000 of Employer’s National Insurance. If you make your first hire, and they’re paid £35,000, say - the NI is covered in full, nothing for you to pay on top. You’ll end up needing to operate a pension scheme in due course, but annual employer contributions will be less than £1,000 under a standard setup. There’s going to be a bit of cost in getting the payroll processed and the pension set up of course, and you’d be wise to pay someone to help you get the HR and contracts side of things set up properly, but the additional costs at this point shouldn’t really make any difference to a sensible business owner.

Once the Employment Allowance is used up, the costs are more meaningful. Because National Insurance only kicks in on income over £9,000, and pension contributions are generally only calculated on income over £6,000, for relatively low-paid part-time staff, additional costs are minimal - for someone on £10,000, NI and pension contributions add less than 3%. But if someone is on £20,000 the additional costs are about 10%. By the time they’re on £40,000 the additional costs are just under 14%. They don’t get any higher than that. So if you wanted a “worst case” number, go with 14%. But you can see how important the make-up of the workforce is, and why 10% is generally fine for projections.

None of this is intended to deter anyone from employing staff! The extra costs are a fact of life, and generally a robust and successful business will take them in its stride, and won’t try to play fast and loose with employment law and pretend that employees aren’t really employees in order to avoid them - if a business can’t be successful within the rules that’s generally a problem with the business, not the rules. At the same time, though, it’s a really smart thing to think about and budget for.

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Should I put my Buy To Let property into a company?

Owners of rental properties pay tax on the profits, and often the biggest cost associated with the property is mortgage interest. Over the last few years, the tax relief on that interest has gradually been tapered down for those with higher income, and people who might once have saved tax at 40% (or more) on that interest now save tax at a maximum of 20%.

As a result, the idea of putting a Buy To Let property into a limited company is often floated as a possibility. Is it a good idea? For most people, on balance it’s unlikely to be. Here are a few significant factors:

• If it’s a property that you already own, then transferring it to a limited company will be taxed as if you’d sold it at market value. If it’s gone up materially in value since you bought it, you’ll probably pay some Capital Gains Tax.
• There’ll also be Stamp Duty to pay on such a transfer; Stamp Duty on the transfer of a property from an individual to a company is calculated on the basis of market value, not the amount paid.
• Although the tax-efficiency of the rental income in the company might be a bit better, it’s quite likely that the tax position when you come to sell the property might be worse. An individual has a tax-free allowance for capital gains and only has to pay tax on profits above that Annual Exemption. A company pays tax on every penny. And then, as the owner, you’re likely to want to get the profits out of the company - and you’re likely to pay tax then as well. That kind of double taxation is always an issue when appreciating assets are held within a company.
• The professional fees you’ll incur in having a company’s accounts and taxes properly looked after are greater than those for an individual, so a bit of the year-on-year tax efficiency is absorbed by that anyway.
• It’s often the case that it’s more expensive for limited companies to borrow than it is for individuals.
• Fundamentally, it’s a big punt on the tax regime remaining stable for a long time, and such punts are pretty risky. It’s easy to imagine the rules changing to eat away at tax efficiency for the company ownership route - and you’ll still have paid the switching costs if you used to own the property personally, and you’ll still be stuck with double taxation on exit!

A limited company is more likely to be indicated where there are multiple properties and where there’s a really long term vision for the business. If it’s intended that a rental business will have multiple properties and it might be contemplated that it might even last generations, a limited company could well be indicated. But in 90% of situations, our view is that personal ownership is still more appropriate.

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