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Entrepreneurs: here’s how to take advantage of the tax benefits of supplementary pension planning
Most business owners underestimate the value of an aggressive pension strategy, either for themselves or for their business. An extremely advantageous solution… provided it is implemented soon enough.
Salary or dividend? This is the usual question facing entrepreneurs on drawing an income from their business. They are often recommended to go for remuneration that is sufficient but not too high, in order to build up larger profits. This is quite simply because profits are taxed at a considerably lower rate (15%) than income (on which the marginal rate in French-speaking Switzerland is about 40%).
The reasoning is not incorrect, but we regularly see that in time it can produce some quite nasty surprises. Firstly, accumulating retained profits year after year necessarily increases the company’s per-share value, and consequently the tax on the entrepreneur’s wealth. As this is calculated on the basis of a multiple, the bill can quickly shoot up if profits are significant.
Secondly, if the business is sold, the purchaser will systematically reduce the value of these accumulated reserves, because they constitute a deferred tax liability. Entrepreneurs tend not to know this, and they often face a rude awakening.
However, there is an extremely profitable solution that allows you to optimise your tax position, add to the value of your business more effectively and build up a solid retirement fund: supplementary pension planning.
How does it work? Entrepreneurs pay themselves a higher salary so they have sufficient buyback capacity in Pillar 2, through the company’s pension fund. This is a way of neutralising income tax – the income generated is not taxed – and sheltering this money from any business setback that may occur.
Far from the widespread view that LPP is rigid and obscure, at Lombard Odier we work with partners who enable us to offer personalised, flexible solutions that generate good performance.
Don’t wait until it’s too late
However, one factor is needed if you are to maximise the possible gains from this operation: foresight! We are well aware that entrepreneurs are much more focussed on developing their business than on the opportunities provided by building their own pension.
Yet if you only start to address the matter when you are approaching retirement and/or selling your business, this means saying goodbye to many of its advantages, particularly in tax terms. So we recommend taking steps in this direction as soon as you can.
To get a better idea of how the process works, let’s imagine two business-owning entrepreneurs. The first draws a salary of CHF 150,000 a year and generates profits of CHF 500,000 a year. Ten years later, the company will have CHF 5 million in retained earnings, but the owner will have built up very little in the way of pension savings.
The second person decides to take an annual bonus of CHF 350,000, using it to make buy-back contributions to the pension fund. Ten years later, they will benefit from several million francs of tax-free pension savings. And when they want to sell the company, the buyer will value the business at its true level.
The first entrepreneur, on the other hand, will have to find a way of taking CHF 5 million out of the business at short notice, at the risk of generally only getting half that back in the transaction price.
At Lombard Odier, we believe in taking a global approach to entrepreneurs’ business assets, private wealth and pension savings. As we have shown, combining these different elements can give rise to significant optimisation, both for the business and its owner. This is true through all the different stages of life, including during retirement (international mobility, succession etc.).
Important information
This document is issued by Bank Lombard Odier & Co Ltd or an entity of the Group (hereinafter “Lombard Odier”). It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful, nor is it aimed at any person or entity to whom it would be unlawful to address such a document. This document was not prepared by the Financial Research Department of Lombard Odier.
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