Tax Tip 374: Bucket Company Saves Tax Even When Dividend Paid to Top Marginal Rate Taxpayer?

Last time I showed how a bucket company can allow for extra compounding to occur which allows for earnings to compound quicker. This results in a much larger capital base.

Tax Tip 372: The Extra Compounding that can Occur with Bucket Companies Tax Tip 372: The Extra Compounding that can Occur with Bucket Companies

Now I want to consider the situation where an individual is on the top marginal tax rate for the next 10 years at least and uses a bucket company to invest, but to draw a dividend out of the bucket company at the end of the 10 years when the individual is still on the top marginal tax rate.

The individual will still be better off using a bucket company, depending on the accounting fees, because of all of the extra compounding.

I have made a spreadsheet which shows $1mil invested in a trust which earns 10% return each year with the earnings either

a) Distributed to the individual and taxed at 47% with the rest gifted back to the trust and reinvested, or

b) Distributed to a bucket company and taxed at 30% with the earnings reinvested by the bucket company

Continuing on for 10 years the individual would have $1,676,037 in capital and have paid $599,505 in tax.

The bucket company would have had $1,967,151 in capital and have paid $414,493 in tax.

The difference in tax paid would be about $185,011 in the bucket company’s favour.

What would then happen is the individual would ‘retire’ or stop working and slowly take dividends over several years to reduce the amount of tax payable.

But say this did not happen. The individual may have had to pay a ransom to Somali pirates and need to use all the company income at once.

This would mean the company would pay them $1,967,151 in income. They would be taxed at 47% on this paying $924,561 in tax but would receive franking credits of $414,493 leaving the extra tax payable being $510,067 which would be the total tax overall.

Now compare this to what they would have paid had they received all the trust distributions each year which was $599,505.

They would still have saved $89,437 by using the bucket company!


All my figures are probably wrong, but hopefully this will show how the extra capital compounding in a bucket company can still result in tax savings even when the company pays a dividend, after a number of years, to someone on the top marginal tax rate.

Imagine how much more tax it could save where a couple had retired and started drawing down on the company when on a lower income.

 

I wrote this months ago, will have to check the figures again