Down to brass tax
In part 2 of their series on retirement planning, Michael Ó Scathaill and Jonathan Ginnelly consider the key tax issues arising
Part 1 of this series set out the commercial issues that legal practitioners should consider in the context of their retirement.
Part 2 now addresses:
- The taxation of profits and application of the rules of cessation in the final periods,
- Reviewing pension provision,
- In certain cases where a practice is closing the requirement to make redundancy payments to staff members and the tax treatments arising, and
- The tax treatment of disposals of goodwill and business premises and whether retirement relief and/or revised entrepreneur relief might apply.
Taxation of profits
Section 67 of the Taxes Consolidation Act 1997 (TCA) sets out the basis of assessment of Case I/II profits earned in both the year of cessation and the penultimate year of assessment: these are known as the 'rules of cessation'.
They are best illustrated using a hypothetical example.
John is a sole practitioner who prepares accounts to 30 April each year and who recently retired on 30 April 2026. His Case II profits in recent years have been as follows:
- Year-ended 30 April 2024: €120,000;
- Year-ended 30 April 2025: €150,000;
- Year-ended 30 April 2026: €180,000.
In 2024, John was taxed as normal on his profits earned in the 12-month period ending in 2024, being €120,000. For 2025, initially he was taxed on the same basis, on profits of €150,000.
For 2026, however, as he has ceased practice in the year, the rules of cessation apply, meaning that he is only taxed on his profits earned from 1 January 2026 to the date of cessation – that is, 4/12ths of his profits in the 12-month period ending on 30 April 2026, or €60,000.
The rules of cessation, however, also require John to compare his actual profits for the calendar year 2025 on an actual basis – that is: (€150,000 x 4/12) + (€180,000 x 8/12) = €170,000 – with the amount actually assessed (€150,000) and, if the revised amount is higher, he is taxed on that amount.
In this case, therefore, John's taxable profits for 2025 are revised upwards from €150,000 to €170,000.
Even with the revision of his 2025 assessment, however, John is only taxed on total profits of €230,000 for 2025 and 2026 combined, even though his actual total profits were €330,000.
Implications
The rules of cessation will affect a retiring practitioner, regardless of the manner of their cessation (whether sale of practice, transfer to a new practitioner, or simply closing the doors).
In some cases, they can also be relevant even in a non-retirement scenario where practices merge, although the details of any such merger would have to be carefully reviewed before confirming the tax treatment applicable.
The workings of the rules of cessation give rise to a number of considerations, notably:
- A significant portion of final-year profits can effectively 'drop out' of the assessment. A practitioner who is contemplating retirement might therefore consider whether now is the time to go, if they have had a particularly strong year that is unlikely to be repeated in the foreseeable future.
- The impact of the rules, however, largely depends on what the practitioner's year-end is. In essence, an accounting year-end in the early months of the year should result in a greater drop-out than one late in the year, provided the practitioner also ceases early in the calendar year. On the other hand, the rules of cessation should make no difference where a 31 December year-end is used, as this practitioner is effectively already taxed on a calendar-year basis. The choice of year-end is, therefore, important in this regard, and should be considered carefully.
Finally, for clarity, it should be noted that the rules of cessation apply only to Case I/II income (that is, practice profits), whereas other income, such as rents or dividends, continue to be taxed as normal.
Pension provision
A key issue for any retiring practitioner will be to review their pension provision. Specialist pension advice should be taken several years in advance of retirement, as there are a number of factors to consider, including:
- Whether there is scope to make further pension contributions having had regard to existing pension provision and, in particular, if there is any risk that the pension fund threshold (currently €2.2 million, but projected to rise to €2.8 million by 2029) might be exceeded, which could give rise to significant additional tax liabilities, and
- Considering what level of lump-sum and pension income in retirement that the pension provision will fund, and the benefit of making additional contributions. This is considered in more detail in part 3 of this series.
Assuming that the practitioner does then decide to make additional contributions, they should be aware of the maximum tax relief applicable.
For example, an individual aged 60 years or older can claim income-tax relief on pension contributions of up to 40% of their net relevant earnings (but capped at earnings of €115,000) in a given year.
Furthermore, if the threshold in the previous year has not been utilised in full, it may be possible to make a contribution in the current year and to claim relief for it in the prior year, provided it is made before the income-tax filing deadline for that year.
The impact of the rules of cessation should also be considered, in that they may result in a much-reduced amount of assessable Case II income in the year of cessation, which in turn affects the maximum amount on which relief can be claimed for pension contributions in that year.
Consideration might therefore be given to maximising contributions in the penultimate and earlier years.
Redundancy payments
Some scenarios, such as where the practice is simply to be closed, can result in staff being made redundant.
Entitlements under the Redundancy Acts should be established: tax legislation specifically provides that statutory redundancy payments are exempt from income tax for the recipient and are deductible against taxable profits by the payor.
Should any additional payments over and above their statutory entitlements be made, then these would be subject to PAYE and USC (but not employer's nor employee's PRSI); however, to the extent that these additional payments represent ex gratia as opposed to contractual entitlements, they, too, may be exempt from PAYE and USC up to a certain amount, based on formulae set out in the tax legislation.
However, where a practice is ceasing, the additional payments are unlikely to be deductible for the payor, on the basis that they are not made for the benefit of the trade, which is itself ceasing.
Capital assets
Capital gains tax (CGT) considerations may also arise in some cases.
Two assets that a retiring practitioner may find themselves disposing of are practice goodwill and business premises.
The proceeds of disposal of either should be liable to CGT in the hands of the retiring practitioner and, furthermore, there are two reliefs that may apply to reduce or even, in some cases, provide a full exemption from CGT.
Retirement relief (sections 598 and 599, TCA) provides a full exemption from CGT on disposals of qualifying business assets, provided the proceeds do not exceed €750,000 (or €500,000 if the vendor is aged 70 years or older).
This is a lifetime cap, and all qualifying disposals are amalgamated. Where the cap is exceeded, retirement relief does not apply and CGT is calculated as normal, but marginal relief applies to cap the CGT payable at 50% of the excess above the cap.
There are a number of conditions to be met, and these should be reviewed carefully before determining if the relief applies but, in headline terms, it applies to disposals of assets that were owned by the vendor for a period of at least ten years ending on the date of disposal and were used in a qualifying business throughout that period, provided the vendor is aged at least 55 years at the date of disposal.
Revised entrepreneur relief (section 597AA, TCA) provides a reduced rate of CGT of 10% on the first €1.5 million (lifetime amount) of gains (note: gains, as distinct from proceeds for retirement relief) on disposals of qualifying assets.
The conditions for this relief differ to those for retirement relief. Again, they must be carefully reviewed but, in headline terms, the assets disposed of must have been owned for a continuous period of at least three years falling within the five-year period ending on the date of disposal, and must have been used for a qualifying business throughout that time.
Goodwill
Part 1 of this series considers the matter of goodwill in a commercial context, and in what circumstances a payment for goodwill might arise; as noted, the attitude of the purchaser/successor on the one hand, and the retiring practitioner on the other, can diverge and the matter can be the subject of detailed negotiation.
While not the only factor, tax can play a role in the attitudes of the respective parties. The vendor/retiree may be pleased with the tax treatment, especially if one of the reliefs above applies.
While the matter would have to be reviewed carefully and considered on a case-by-case basis, it is very possible that one or both of these reliefs would apply to a sale of goodwill in a solicitor's practice.
The purchaser, on the other hand, may be disappointed that they will not get an upfront tax deduction for the payment, it instead forming the base cost for the purposes of calculating CGT on any future disposal of goodwill, something that is far from certain to materialise.
Business premises
The commercial considerations and complexities regarding the business premises are discussed in part 1.
The tax treatment can also be far from straightforward.
Where the premises are owned by the retiring practitioner, any gain realised on their disposal should be liable to CGT. Whether such a disposal qualifies for the reliefs above is a complex matter, with a number of determining factors, including the ownership structure and timing of any disposal.
In the case of retirement relief, a key challenge can be meeting the condition that the premises are used in the business up to the date of disposal.
Where, for example, the successor does not wish to acquire the premises, this is something that might, for instance, be especially relevant in the case of a sale to merger with, or another existing practice), there is a risk that there will be a 'lull' period during which the premises will not be used in the business.
Revenue does provide concessionary treatment in some cases where the business is closed permanently and the premises (or other relevant assets) are disposed of as nearly as may be at the same time; however, this concession only applies in narrow circumstances.
Revised entrepreneur relief may be more accessible, as the three-year period of ownership and use can fall within the preceding five years, not necessarily the last three years up to the date of disposal.
Early engagement
There is much to consider and, again, a key point is that early engagement and planning enhance the chances of a better tax outcome on retirement.
Having navigated the exit itself, thoughts can then turn to the post-retirement phase, something that we consider in part 3.
Michael Ó Scathaill is a director of the owner-managed business service in the tax department at Crowe. Jonathan Ginnelly, partner, leads the private clients' service in the same department.
For further details on succession planning and for information on supports and services available from the Law Society, contact Solicitor Services solicitorservices@lawsociety.ie.