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Income Shifting – Are You Paying Your Partner

The tax rules seek to PREVENT someone gaining a tax advantage by arranging to divert his/ her income to family or friends taxable at a lower or nil rate. For example where a husband and wife own equal shares in their own company but the husband is the only earner.

This piece of legislation is known as ‘Income Shifting’ and the settlements rules (ITTOIA 2005, ss624-627)

If you have set up a Limited Company, are a knowledge based worker and your partner, family or friends owns any shares in that Company, but do not actually earn income for the Company, then you could potentially get caught.

HMRC in recent years used the rules to attack common tax planning arrangements in family companies such as where a main earner draws a low salary from a family company such that there were higher profits out of which to pay dividends to the spouse or partner.

However In 2007 HMRC lost a long running landmark case (Arctic Systems – a company owned by a husband and wife team) in favour of the taxpayer on the basis that although there was a settlement in this case an exemption for outright gifts between spouses applied.

Notwithstanding their loss in the Arctic Systems case the Revenue has still sought to identify ‘income shifting’ cases.

Immediately after this case the government announced it would make changes to the legislation to counter ‘income shifting’. although nothing has come into law to date.

The new (coalition) government has created the Office of Tax Simplification (OTS).  One of the directors of the OTS, recently revealed that his team were looking at “income splitting” alongside other controversial taxes on businesses, such as National Insurance and IR35.

If you are a husband and wife using the same model as Mr and Mrs Jones in ‘Arctic Systems Case’ , you should not be ‘caught’ by the settlements legislation. (Mrs Jones had ordinary shares with full rights).

Some things to consider are:

Avoid having different share classes.  All shares should have the same income, capital and voting rights.

Both parties should contribute to the company’s business.

Both parties should subscribe for shares from their own resources.

Avoid dividend waivers

Each arrangement needs to be looked at individually and whether you are married, are civil partners, are cohabiting, are other family members or are friends and you are looking to establish a joint business you should seek expert advice.

If you need help or advice regarding this please do not hesitate to contact me on [email protected] or visit my website pmarks.co.uk

Disclaimer:

Paul Marks & Co Chartered Accountants is the trading name of Paul Marks Ltd a Limited Company registered in England and Wales (registered number 4487645). This article is designed for the information of readers only and readers should not act on any of the information contained in this article without seeking professional advice. Nothing in this article constitutes advice, nor does the transmission, downloading or sending of any information or the Material create any contractual relationship. Links to third party websites are provided as a convenience to the reader, Paul Marks Ltd does not control and is not responsible for any of those websites or their content. Paul Marks Ltd accepts no liability or responsibility whatsoever for any loss or damage suffered by any user of the information contained on or accessed through this article or the Material downloaded.