New rules for voting bonuses
Old rules. It’s common tax planning practice to prepare a draft set of accounts, work out the tax liability and then decide to vote a bonus to the directors (which must be paid within nine months of the year-end). This bonus is then included in the accounts to either clear an overdrawn director’s loan account or reduce the company’s Corporation Tax liability.
What’s changed. With effect from accounting periods beginning on or after January 1, 2005, under new accounting rules (FRS 21), bonuses for employees or directors declared after the year-end may only be accrued in the balance sheet if there was a “legal or constructive obligation at the balance sheet date” to make such payments. All other bonuses declared after the year-end cannot be included until the following year.
Tip. Prepare a board minute before the year-end setting out the basis for determining the bonus (e.g. x% of profits). This will provide evidence that there was a legal obligation to pay a bonus before the year-end and so a provision for the bonus can be included in the accounts.
For a sample board minute, visit http://tax.indicator.co.uk (TX 06.13.08).