This article was first published in the Irish Farmer's Journal on Thursday 8th June.
As every farmer knows, the 2022 taxes will be due this November. Across most farming sectors, particularly dairy, 2022 profits will be significantly higher than in 2021. Depending on your business structure and current reliefs on the farm, this could mean a significant uplift in taxes due this November.
Below we look at an example of what we are seeing within ifac. We will examine taxes owing for their 2021 and 2022 accounts and their impact on the farm’s cash flow over 2022 and 2023.
Case Study:
80-cow spring calving dairy farm in midlands
All land owned – 118 acres of grassland – 2 blocks
Sole trader accounts
Spouse working off-farm and earning enough to use full low rate (20%) tax credits
Cash drawings before tax on farm average €18,000 to €20,000 per year
3 dependants – 2 working (living & working away from home) and the youngest child is in college
The last significant investment was 7 years ago on the milking parlour and extra cubicles/slurry storage.
€67,000 remaining on loan – was originally 15 years, but with once off cash payments, only 4 years remaining.
Capital allowances decreasing – dropped circa 10k from 2021 to 2022
No significant investments are needed on the farm based on current stocking levels.
No short-term / HP debt
No farmer successor is identified.
Example (A) - Farmer Tax Computation
| 2021 | 2022 | |
|---|---|---|
Taxable trading Income after add backs (depreciation, stock reliefs etc) | €103,687 | €131,574 |
Cap Allowances | €23,796 | €13,874 |
Taxable Income | €79,891 | €117,700 |
Retirement Annuities (Voluntary pension contribution) | €22,000 | €38,000 |
Taxable Income (Income Tax rates) | 57,891 | €79,700 |
Income Tax Calculation | €16,096 | €24,520 |
Less Credits (Personal & Earned) | €3,300 | €3,400 |
USC | €3,242 | €6,783 |
PRSI | €3,195 | €4,708 |
Net Tax Liability (P8) | €19,234 | €32,611 |
Preliminary Tax paid | €14,531 | €19,234 |
Total Tax Payable | €4,703 | €13,376 |
As can be seen above, the farmer’s profits from 2021 to 2022 increased by 26%, but their net tax liability increased by 69% to €32,611 because of reducing capital allowances and more tax at the high rate of 40%. However, this is not the complete picture; the farmer next needs to calculate the cash cost on the above. What will our sample farmer actually pay in cash terms on the above calculations?
Example (B): Cashflow implications based on above example:
| Cashflow Implications | 2022 | 2023 |
|---|---|---|
Balancing Taxes paid for Previous Year | €4,703 | €13,376 |
2022 Prelim Tax | €19,234 | €32,611 |
Pension Payments | €22,000 | €38,000 |
€45,937 | €83,987 |
As shown above, the actual cash cost in 2023 next November over 2022 in payments to revenue/pensions has increased 82% to €83,987. Nearly 50% of this is pension contributions, so while you have the total actual cash cost of a pension, the tax savings is at 40% income tax rate.
Also, the preliminary tax calculation for 2023 is based on 100% of the tax due for the immediate previous year, which in this case was the high-profit year of 2022. The significant uplift in profits and subsequent tax liability resulted in increasing preliminary tax payments for 2023**
Note** If 2023 actual taxes are less than the preliminary taxes paid of €32,611 in 2023, then our farmer will be in receipt of a possible refund in 2024.
Pensions - Was this a good decision?
If our farmer did not pay pension contributions, then the cash outlay per year would go down, but income taxes liability and preliminary taxes for 2021 and 2022 would increase as a result. Below is the same tax computation example, except in this case, our farmer does not make a pension contribution.
Example (C) - Farmer Tax Computation (No Pension)
| 2021 | 2022 | |
|---|---|---|
Net Tax Liability | €28,033 | €47,811 |
Preliminary Tax paid | €14,531 | €28,033 |
Total Tax Payable | €13,502 | €19,777 |
Cashflow Implications No Pensions
| 2022 | 2023 | |
|---|---|---|
Balancing Taxes on 2021 paid in 2022 | €13,502 | €19,777 |
2022 Prelim Tax | €28,033 | €47,811 |
Pension Payments | € - | € - |
€41,536 | €67,588 | |
Cash Savings (No Pension) | €4,400 | €16,399 |
As there are no pension contributions, our farmer's income exposed at a 40% tax rate has increased significantly, increasing his Net Tax liability to €47,811 from €28,033.
In reality, our farmer did make a pension contribution in 2022 and has provisionally decided that the €38,000 (circa €17,000 extra cash cost) is worth the investment into a pension for 2023. Their pension can be accessed between the age of 60 and 75**. It is important to note that the investment into a pension is not just about tax savings; it is always recommend farmers look to the future and their own retirement.
Note: The draw down of a pension and subsequent tax consequences should always be discussed with your financial advisor.
So where does this leave this farmer for 2023 and beyond?
The 2023 cash payments and tax liabilities for 2022, as per above, are only drafted. Our farmer has yet to finalise the above decisions, there are two key decisions they have yet to decide fully – pension contributions and preliminary tax payments for 2023. It is important to examine the basics to ensure all tax is minimised. Areas that will be examined will be as follows.
Ensure all tax credits are being claimed.
Medical expenses
Family wages
Correct deductions for motor/phone / ESB etc
Stock relief
Capital Allowances.
Income averaging is another area that this farmer should look at, where we average the profits over a 5-year period. Income averaging is very effective in years when profits are increasing but can have negative cashflow impacts in years when profits decrease.
Changing the business structure might be another option for our farmer. Is a Limited Company a viable option for this farmer? Our farmer hasn't decided on a farming successor yet nor on the medium to long-term future of the farm. The move to a Limited Company is a medium to long-term tax decision.
Preliminary Tax – the options
As seen above, the preliminary tax payments for 2023 are based on actual taxes for 2022, these payments in both scenarios are a significant cash cost to the business. However, farmers have specific options regarding how much preliminary tax they should pay.
90% of taxes due for the actual year
100% of the tax due for the immediately previous tax year
105% of the tax due for the tax year preceding the immediately previous tax year (must pay a minimum of 5 by direct debit in the first year)
In the case of our sample farmer, the farmer will aim to have their first 9 months of accounts completed by September / October to make an accurate profit calculation for 2023. This profit estimation would therefore allow our farmer (based on the assumption that dairy profits are dropping) to reduce their preliminary tax bill from 100% of the previous year's actuals to the 90% of the 2023 estimates.
However, making that assessment will not be possible until later this year. Equally, our farmer may decide to pay their preliminary tax based on 105% of 2021, however, they need to have decided on this option before August, as 5 direct debit payments must be made. By implementing one of the other two methods of paying preliminary tax this farmer can reduce the cash cost to the business in 2023.
Advice to all farmers
Get your 2022 accounts drafted as soon as possible and calculate your potential 2022 tax liability.
If you are looking to pay 105% of 2021 as preliminary tax, the first direct debt must be in place by August (you need 5%)
Examine all the basics, tax credits etc., to ensure your tax is minimised.
Review 2023 cashflow - will the funds be there in November to pay the tax liability?
Pensions are not just a tax-saving exercise but an investment in your future. Is this an option?
Business structure is important and should continually be reviewed to ensure you are in the optimum tax structure for your business/family.
