Praveen is one of UP’s trusted local facilitators. In this article, he explains why business protection and pension planning are important for business owners, particularly those who are just starting out.
As a business owner, you have invested significant time and effort into building your company. While growing the business is often the priority, it is equally important to plan for the unexpected and ensure you’re making the most of tax-efficient opportunities available to your business.
Business protection and pension planning are two areas that can help safeguard both your business and your personal financial future.
Business Protection – Protecting What You Have Built
For many small businesses, the owners and key employees are the business. Their skills, knowledge, relationships and leadership are often difficult to replace.
Business protection insurance helps provide financial support if a key individual dies or suffers a serious illness, allowing the business to continue trading with greater financial stability.
Key Person Insurance
Key Person Insurance provides a lump sum to the business if an insured key employee or director dies or suffers a specified critical illness (where included).
The proceeds can help the business:
- Replace lost profits.
- Recruit and train a replacement.
- Cover increased operating costs.
- Reassure lenders, suppliers and customers during a difficult period.
Depending on how the policy is arranged and the purpose of the cover, premiums may qualify as a deductible business expense for Corporation Tax purposes under HMRC’s “wholly and exclusively” rules. However, tax treatment depends on the purpose of the policy and individual circumstances, and HMRC does not provide automatic relief.
Relevant Life Policy
A Relevant Life Policy is an individual death-in-service benefit designed specifically for directors and employees of limited companies.
Rather than paying personally for life insurance from taxed income, the company pays the premiums on behalf of the employee.
Where the policy satisfies the relevant legislative conditions, premiums are generally treated as an allowable business expense for Corporation Tax purposes and are not normally treated as a benefit in kind for the employee. They are also generally free from employer and employee National Insurance contributions.
For many director-shareholders who are not eligible for a traditional group death-in-service scheme, a Relevant Life Policy can provide valuable life cover in a highly tax-efficient manner.
Shareholder Protection – Keeping Control Within the Business
Many businesses have two or more shareholders, yet few have a plan for what happens if one shareholder dies or becomes critically ill.
Without appropriate planning, the deceased shareholder’s shares could pass to their family or estate, leaving the remaining shareholders without control over who owns part of the business.
Shareholder Protection helps solve this problem.
Typically, each shareholder takes out an insurance policy that provides funds if another shareholder dies or suffers a specified critical illness.
Alongside the insurance, a Cross Option Agreement is put in place.
This legal agreement gives:
- The surviving shareholders the option to buy the deceased shareholder’s shares.
- The deceased shareholder’s personal representatives the option to sell those shares.
Because both parties have matching rights, ownership can usually transfer smoothly while the insurance proceeds provide the funds to complete the purchase.
Example
Sarah and James each own 50% of a business valued at £800,000.
Each shareholder arranges Shareholder Protection for £400,000, together with a cross option agreement.
If James dies unexpectedly:
- The insurance policy pays £400,000.
- Sarah uses the insurance proceeds to purchase James’s shares.
- James’s family receives the full market value of his shareholding.
- Sarah retains full ownership and control of the business.
Without this arrangement, James’s family could inherit his shares, potentially leaving Sarah running the company alongside individuals who have no involvement in the business.
Building Your Pension Tax Efficiently
Protecting your business is only part of the picture. It is equally important to build your own financial security.
Employer pension contributions made directly by a limited company can often be one of the most tax-efficient ways to save for retirement.
Provided the contribution satisfies HMRC’s “wholly and exclusively for the purposes of the business” test, employer pension contributions are generally deductible for Corporation Tax purposes.
Example – Corporation Tax Saving
If your company makes a £10,000 employer pension contribution and pays Corporation Tax at the 19% small profits rate, it could reduce its Corporation Tax bill by £1,900.
- Employer contribution: £10,000
- Potential Corporation Tax relief: £1,900
- Effective net cost to the company: £8,100
Example – National Insurance Saving
If the company instead paid an additional £10,000 salary, it would generally also incur Employer National Insurance at 15% (subject to thresholds and allowances).
Editor’s note: Praveen will be volunteering at our next Finance Bootcamp on 30 July. Subject to his availability, attendees may have an opportunity to speak with him after the Bootcamp about the topics covered in this article. If you are interested, please let the UP team know. If you haven’t yet secured your place at the Bootcamp, we encourage you to book your spot soon.
Praveen Mahadani
Financial Planning Consultant,
Quilter Financial Advisors,
Tel: 07810 756758
Email: [email protected]
Website: www.quilter.com/financial-advice/adviser-directory/praveen-mahadani