Sharing income with your spouse as a tax saving strategy?
-Guest post by Robert Bradley
Many small companies have one director with salaries paid to them and their spouse, and shares split between them; often the case with locum doctors. This uses both personal allowances and utilises two basic rate bands of tax, though it also gives rise to a number of issues that need consideration:
Does the general anti-abuse rule (GAAR) that became law last summer impact on it?
GAAR is the government's new weapon against tax avoidance, though currently, giving assets to your spouse to reduce your income or capital gains tax bill is not an abuse of the tax rules.
Giving the spouse in the lower tax band shares in your company so that you can pay them dividends is usually the most tax efficient route to save tax and NI and this strategy is widely used.
Can HM Revenue & Customs attack it using the settlement legislation?
Settlement legislation does not apply to a gift you make to your spouse as long as you do not restrict or withhold their right to the income arising from the share or other asset.
To illustrate, let’s take the example of the Artic Systems Ltd case considered by the House of Lords: Mr Jones was the shareholder of a recently formed company, and the sole fee earner for the business. His wife, Mrs Jones was invited to subscribe to an ordinary share in Artic for £1. It was decided that this was clearly a gift, as when Mrs Jones bought the share, both she and her husband were certain the company would produce profits to which she would be entitled as a shareholder. The value of her share would far outweigh its £1 cost, rendering it unquestionably a gift.
Where the recipient is your spouse, this is not considered tax avoidance. When you give away an asset, HMRC considers this a settlement, and unless the recipient is connected to you (for example your brother), they will be taxed on any income it produces. Where the recipient is connected to you, income is taxed on the person who gave the asset away (that’s you), unless the recipient is your spouse.
Does income-splitting increase the risk of an IR35 investigation?
To recap: giving ordinary shares in your company to your spouse, means you can successfully shift income in the form of dividends without adverse tax consequences. However, HMRC are still interested in husband-wife companies in the context of IR35, the Intermediaries Legislation, as often one spouse is the sole fee earner providing his personal services.
Shifting income will not in itself increase the risk of IR35 but HMRC are now trying to get more information about salary and dividends paid to the directors of companies using the “Service Company” question which now appears on Self Assessment Tax Returns. This asks for the total income derived from salaries and dividends. If the you answer “yes” to the Service Company Question, make sure on any year-end PAYE returns your answers are consistent with your Self-Assessment Return. Husband and wife can answer the Service Company question on their Tax Returns differently if one spouse is the main fee earner because for them the company would be a service company, but for the non-fee earning spouse the company would not be a service company. Strange but true!
Robert is principal of Bradley & Associates, the PCG accredited accountants for the Worcestershire area and acts for a portfolio of locum doctor clients throughout the Midlands. He can be contacted on 01299 879140.
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