Advantages of a Personal Holding Company

Introduction

A holding company is a company that owns shares in another company. It generally does not produce goods or services itself. The sole purpose of a holding company is usually to own shares in another company.

Whether it is better to form a holding company rather than holding shares personally requires consideration of factors such as the type of business, number of shareholders and the long-term goals of the business and shareholders.

The reasons for establishing holding companies are often diverse and include ringfencing business risk, segregation of trading assets from investments and numerous tax advantages as explained below.

Risk Protection

As a business owner, creditor protection is an important consideration. Even in the best planned businesses, unforeseen circumstances can arise. Holding companies may protect a business owner’s interests by minimising exposure to the risks of trading. Where a dividend is received by an Irish company from another Irish company it is exempt from corporation tax. By creating a holding company, retained earnings can be transferred from the trading company by paying tax-free dividends to the holding company. Business owners can thereby confine risk to the trading company without exposing the cash reserves held in the holding company. The holding company should be exposed to risk only to the extent of its investment in the trading company. If a holding company later decides to lend money to the trading company, it can secure the debt and become a secured creditor of the holding company. This gives the trading company priority when it is time for the debt to be repaid.

Tax Efficient Reinvestment

Another important advantage of a holding company is the ability to reinvest cash reserves on a tax efficient basis. To illustrate, profits from an active business earned inside a trading company are taxed at 12.5%. These after-tax earnings can then be distributed to the shareholders in the form of dividends. If the dividends are received by an individual shareholder they are subject to personal income taxes at up to 52%. Instead, the payment of tax free dividends to a holding company can allow the holding company to reinvest the funds it receives. By filtering out one layer of tax, the reinvestment of funds becomes tax efficient. This may be especially beneficial where there are a number of unconnected shareholders of the trading company. Where each of these shareholders can have their own personal holding company, this offers them the flexibility to independently decide whether they want to pay dividends of the trading company through the holding company and out to themselves or alternatively, whether they want to leave some or all of the trading company dividends in the holding company to be reinvested for their own personal benefit.

Selling Tax Free

Irish tax law provides for a capital gains tax exemption for disposals of qualifying subsidiaries by an Irish holding company. The Irish holding company must hold at least 5% of the trading subsidiary.

This exemption contrasts with the 33% tax rate applicable to disposals by individuals so establishing a holding company can realise a substantial saving on the sale of a business.

Post-sale, the holding company can be used as a ‘cashbox’ with the tax-free proceeds being reinvested in a tax-efficient manner. This allows further tax-free gains on successive investments in Irish and foreign businesses.

There are a number of options for extracting the cash from the holding company to shareholders. Individuals intending to live abroad may use the holding company to ‘warehouse” the tax-free sale proceeds of a business until the shareholders are fully non-resident and outside the charge to Irish tax, at which point the holding company may be liquidated and funds paid to shareholders from the holding company without personal taxes for the shareholders.

Conclusion

With correct advice, holding companies can provide various tax and non-tax benefits. A thorough understanding of the benefits is key to making any decision as while there will be many instances where a holding company will be very beneficial, however these benefits need to be weighed against the cost of setting up and maintaining the holding company.