Too much cash in the company piggy bank?

Cash flow can be a problem for new companies or those facing difficulties due to the recession. In the good times, it is therefore tempting to retain profits to create a buffer to make life easier in the future. After all, the government is trying to encourage individuals to increase their levels of savings through investments such as ISA or pensions. However, saving too much in a company or partnership can actually create tax problems.

For example, a trading company with too much cash can create an inheritance tax liability on the death of a shareholder, when normally such shares would not be subject to inheritance tax at all. Therefore, the question is ‘how much is too much cash’?

For inheritance tax purposes, ‘too much’ is any amount that the business does not need for its trade now or in the future. This does give some scope to save up for future purposes e.g. new equipment or premises, but HMRC will expect evidence to support this.

Some companies can accumulate substantial bank balances over many years and where the value of the cash is greater than the value of the trading business itself, this can actually lead to a position where the whole value of shares is subject to inheritance tax on a death.

The capital gains tax rules are even harsher, as serious problems can occur where the surplus cash represents only 20% of the company’s value, rather than the 50% rule mentioned above for inheritance tax. This could create a tax liability on a gift of shares or prevent the 10% rate of tax applying on the same of a company, so that gains are taxed at 28% instead.

Fortunately it is often possible to work with the directors and shareholders of a company, or the partners of a partnership, to identify how much cash is needed by the business and whether this needs to be evidenced in any way. It may be that surplus cash can be contributed into pension or extracted in some other way.  Please contact us for more details or information.