Reasonable compensation, Dividends, Directors wages, Division 7A are all terms you may want to be familiar with when deriving profits, paying taxes and valuing your company. As business owners, we have the privilege and responsibility of setting our own wages. How much we take impacts the profits, taxation financial statements and a whole lot of other things we do in our business including our valuation.
The health of our financial statements impacts all the dealings we have with third parties, including lenders, potential buyers of our business, and taxation. If we overpay ourselves, it can lower the value of the business, and if we underpay ourselves, it can inflate our business’ value. Leaving too little of too much cash in the business means that as owners we haven’t got the working capital mix right!
First of all let’s talk about how over paying yourself can impact your business. Over payment of wages to related parties may lead to Creditors, such as the ATO, not being paid ahead of yourself and has legal implications for Directors. It’s a balance to get the position of wages right. Similarly not paying wages and dividends, but taking the money as a Director or as a shareholder can create a Debit Loan to the Company. By not correctly recognising this Loan and implementing a documented loan repayment with interest can create Division 7 Loan problems for the Company. The ATO may require you then to declare a non franked dividend. This may mean you as a shareholder will have to declare the loan Dividend and pay in the year that you took the money. So it’s best to get it right.
The otherside of the coin is where the owner doesn’t take the money, or declares dividends but leaves it in Retained Profits.
Retained Profits after tax is the nest egg that the company retains before it pays it to Shareholders. A private Company needs to manage this and ensure it does not become too large. Our role as your tax adviser is to address this by planning your dividend policy. We like to sit down and discuss Directors wages and shareholders, and plan how the profits can be extracted from the Company over an extended period. Undertaking Profit planning is something that is vital even if you don’t wish to take the money and lend it back to the Company.
Our approach as advisers is to get a balance. You need to reward yourself as owners and setting a plan to get the right balance ensures everyone wins. If you would like to put a plan in place as to how to extract your Company Profits, come and have a chat with Geoff on 9597 9966 and let’s develop a proactive approach to Company Profit disbursements to you and your family.