Tax and a CC

[oober]

I know someone who is doing contract work for some companies and I was wondering if his reasoning is correct concerning the tax. What he does is pay himself a minimal salary from his CC to cover the basics like housing and food etc. and then keeps the rest of the money in the business's bank account.

This way he is "avoiding" paying tax. Is this a legal way of minimizing tax? Could someone explain it a bit more?

 

[hxc87x]

well, the CC will pay income tax and he will pay income tax on his "salary"
then, the other expenses which arent covered in his "salary" should technically be considered as fringe benefits, meaning that it should actually be included in his taxable income, even though it probably isnt.
bottom line - not that legal.
(that was just a very very basic explanation. too lazy to go in depth today =)

 

[Barefoot Billionaire]

Hi, a CC's profit is taxed at a fixed rate of 28%.

Option 1: Declare all the profit of the CC as a dividend. Should he declare dividends to himself as a member of the CC, a further 10% tax would be payable on that as well (deducted by the CC before the member receives it). Adds up to about 38% if he distributes all the profit of the CC as a dividend.

Option 2: Pay out all the profit in the form of a salary if his role is described as an employee of the CC. I suspect that your friend earns good money and that his personal income tax rate (on his salary) would be just under 40% if he paid himself all the profit of the CC. So, not much difference between option 1 and 2.

Option 3: Keep most of the profit on the books of the CC. And only pay a small dividend. In other words, use most of the profit to grow the business, rather than consume it. SARS rewards this approach to invest in your own business by taking only 28% of your net profit and 10% of the small dividend. Results in much lower tax in total than in option 1.

Option 4 (what it seems your friend is doing): Very similar to option 3 in that he's minimising consumption and rather re-investing profit in his business. But there's no 10% dividend tax - only the tax rate applicable to the size of the small salary your friend is taking. Could be zero if his salary is small enough. The CC is still paying 28% on net profit, though. Completely legal, as far as I'm aware.

 

[Messugga]

What would happen if say...during the course of the year, R500k was paid into the CC's account by clients and whatnot. The owner of the CC then buys a property worth R400k, dropping the net profit to R100k. Do you just pay tax on the 100k then or do you get taxed on the R400k you spent at some other point? Yes, your profits will go up when selling the property again, but if the CC were to buy yet a bigger property, profits would decrease yet again. Seems like this is a good way to avoid a fair chunk of tax, or am I missing something obvious?

 

[hoegh]

What would happen if say...during the course of the year, R500k was paid into the CC's account by clients and whatnot. The owner of the CC then buys a property worth R400k, dropping the net profit to R100k. Do you just pay tax on the 100k then or do you get taxed on the R400k you spent at some other point? Yes, your profits will go up when selling the property again, but if the CC were to buy yet a bigger property, profits would decrease yet again. Seems like this is a good way to avoid a fair chunk of tax, or am I missing something obvious?

your net profit hasn't dropped, you have bought an asset which affects your balance sheet (assets and liabilities) your income tax will be based on your income statement which will include the R500k because you earned that money, basically you will have cash flow problems because your company has no cash to pay the tax, this is a very simple explanation but does the job i think

edit: and when you sell the property, capital gains tax kicks in and sars grabs its share of your profits from selling the property

 

[Messugga]

your net profit hasn't dropped, you have bought an asset which affects your balance sheet (assets and liabilities) your income tax will be based on your income statement which will include the R500k because you earned that money, basically you will have cash flow problems because your company has no cash to pay the tax, this is a very simple explanation but does the job i think

edit: and when you sell the property, capital gains tax kicks in and sars grabs its share of your profits from selling the property

Hmmm righto, didn't think of it that way. Thanks for the reply though!

 

[oober]

Ok and this 28% tax the CC has to pay. Is there a minimum amount before you have to pay tax? Also I take it he still has to register at SARS even though his salary is less than the taxable amount?

 

[Smurfatefrog]

Ok and this 28% tax the CC has to pay. Is there a minimum amount before you have to pay tax? Also I take it he still has to register at SARS even though his salary is less than the taxable amount?

No minimum amount, R10 taxable income means R2.80 tax
Yes, he has to be registered if he's a member of a CC

 

[oober]

What if the CC only has expenses and shows no profit?
I.E the CC reinvests all the money into say hardware and offices etc. What happens to the CC tax then, since you have basically used all the income?

 

[Barefoot Billionaire]

If it's a CC: no net profit, no tax.

If it's a sole trader: if the individual has only one business - no profit, no tax.
But if the individual has 2 businesses or sources of income, eg a salary, as well as a business side-line, he can benefit further by ring-fencing the loss of the business and carrying it over to the next year. He can then score by off-setting this year's loss against next year's potential profit and therefore minimising his net profit in the following tax year.

 

[oober]

If it's a CC: no net profit, no tax.

If it's a sole trader: if the individual has only one business - no profit, no tax.
But if the individual has 2 businesses or sources of income, eg a salary, as well as a business side-line, he can benefit further by ring-fencing the loss of the business and carrying it over to the next year. He can then score by off-setting this year's loss against next year's potential profit and therefore minimising his net profit in the following tax year.

Yes that makes sense. But the CC still has to do tax even if there was no profit right?

Thanks for your info BFB.

 

[Smurfatefrog]

Yes that makes sense. But the CC still has to do tax even if there was no profit right?

Thanks for your info BFB.

Yes, they will still submit a tax return. They will have an assessed loss which will be carried over to the next year and can be deducted off future profits

What if the CC only has expenses and shows no profit?
I.E the CC reinvests all the money into say hardware and offices etc. What happens to the CC tax then, since you have basically used all the income?

Remember that buying assets wont decrease your profit, you will claim depreciation on some assets which are classified as an expense though