As business accountants we talk to clients about limited company structures all day long. In the right circumstances the introduction of a holding company can be a very beneficial addition to your set up.
BUT…
There are some very common mistakes it’s worth discussing before you dive into forming a holding company.
In fact, before we dive in, what is a holding company? What does it do? Why are they useful?
A holding company is generally used when you have two or more related businesses. The holding company sits at the ‘top’ of the hierarchy of your related businesses. They are used to ‘hold’ (i.e. own) things like intellectual property, brick and mortar property, investments and cash.
Under the bonnet, it’s just another limited company that will often own all (or at least most) of the shares in sub-companies. (For more on holding companies, read our previous blog on the subject.)
Mistake 1: Thinking you NEED a holding company from day one
The first mistake, driven heavily by social media, is to think you NEED a holding from day one. For the vast majority of small businesses, you don’t need one anyway, let alone when you’re just starting your main business.
The people selling the benefits of holding companies are often also selling services related to the company. So it’s in their interest to make them sound like something you need from day one.
In our experience, there are only a few scenarios where you need to have one early. A core issue with having a holding company early is it’s more admin and more accounting costs! Do you really want that just as you are starting out? Not really.
If you feel you need one, you can add a holding company to your business empire structure later. There is a little bit of tax work needed to do this, but this is the most common route we see in practice.
Mistake 2: Thinking holding companies are a miracle tax saving solution
We are seeing shedloads of short videos posted detailing how to save tax with a holding company. These videos usually show only one side of a tax saving scenario involving holding companies. This focusses on how your holding company can charge ‘management charges’, or some other fee to your current business, reducing profits and therefore corporation tax.
What these videos don’t show you the other side, where your holding company is then paying tax on the profit it’s now made from those charges!
Added to this, if the holding company records such activity, it will no longer count as a ‘passive’ holding company. This has very real negative tax consequences due to what’s known commonly referred to as the associated company rules. (Brace yourselves…)
The associated company rules
Currently, a limited company with under £250,000 in profits enjoys the first £50,000 profit at 19% corporation tax. Once over £250,000, it pays 25%.
This limit gets split by every associated company. Adding a single holding company that’s charging management charges will mean:
-
- Only profits under £125,000 are now charged at less than 25%
- If your profits are under £125,000, now only the first £25,000 are charged at 19%
So as you can see, by adding a non-passive holding company you can actually INCREASE your bill, rather than miraculously reducing it.
Not convinced?
You may still be thinking, “But I’ve seen the holding company can invest in property, borrow money and eliminate all the profits.”
It could do this, but the actual practical scenarios this occurs in, and in the right timeframe to do this, are so rare we’ve never seen it happen!
And for clarity, remember that the initial investment to buy a property will not reduce the taxable profits by the purchase price…
Mistake 3: Not moving money around between companies properly
One overlooked issue with holding companies is the extra admin burden. It’s absolutely key to document correctly when you move money between companies.
It’s also very important to not see and use the two companies’ money as one fund. There needs to be a clear line in terms of the companies only spending money on their own expenses.
If you get this process wrong, you can actually end up with a repayable loan between your trading business and the holding company. Once again, this effectively negates the key feature of ringfencing money between the companies.
Help with holding companies and other limited company trends
With so much at stake, and the possibility of actually increasing your tax bill by mistake, it is important to speak with your accountant about the implications and addition work involved in setting up and running a holding company.
If you don’t have an accountant, or feel you aren’t making the most of your companies’ structures with your current accountant, we’d love a chat.
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About the author:
Dan Heelan is the Business Services Director of Heelan Associates, an accounting firm that helps small business owners across the UK start, survive, and grow.
With a background as a small business owner himself, he discovered his passion for accounting and tax early in his journey and now focuses on empowering fellow entrepreneurs with the knowledge and tools to navigate the financial side of running a business.
You can see and hear Dan in action in his regular: