The tax general anti-abuse rule (GAAR) became law this summer, and there have been rumblings that HMRC will use this to attack income shifting between spouses. Should you be concerned about this?
For years, company owners transferred shares to their spouses with the aim of reducing their income tax bill, but HMRC challenged these arrangements. Then, ten years ago, the husband and wife owners of Arctic Systems Ltd fought for their right to shift company profits between them all the way to the House of Lords and won. HMRC accepted defeat. But earlier this year the government wheeled out its new weapon against unfair tax avoidance in the shape of the GAAR, and there’s been speculation that this might signal a fresh attempt by HMRC to attack income shifting.
Profit shifting in action
There are a few ways in which you can shift company income to your spouse which might come under scrutiny from HMRC. Where you:
- pay them a salary
- appoint them a director and pay them fees
- transfer shares to them and pay them dividends.
To save tax the receiving spouse must pay at a lower rate than the transferring spouse, and not fall foul of specific HMRC anti-avoidance rules – and now also the GAAR.
Paying your spouse a salary from your company will only save tax if they actually work in the business and their pay is reasonable for what they do. If HMRC thinks their salary excessive, it will challenge the arrangement and refuse a corporation tax (CT) deduction for some or all of it. This is a well established line of attack using long-standing rules. Therefore, the GAAR isn’t applicable to this type of income-shifting arrangement. The key to making it a success is not to overpay your spouse.
Directors’ fees option
Fees are treated the same as salary for tax purposes and so, by appointing your spouse a director, you can pay them. But fees don’t need to be justified like a salary. A non-working director is entitled to be paid because they have legal responsibilities for the company and this alone is enough to justify paying them fees. HMRC can’t refuse a CT deduction unless the fees are disproportionate to the level of the company’s activity. Where you pay fees to one director, you should pay a similar amount to the others to avoid HMRC attacking the arrangement as a sham intended only to avoid tax. Again, this is a long-standing rule, so use of the GAAR isn’t appropriate.
Transfer of shares option
Assuming your spouse pays tax at a lower rate than you, then giving them shares in your company so you can pay them dividends is usually the most tax-efficient route to save tax and NI. The good news is that earlier this year HMRC confirmed that, as far as it was concerned, giving assets to your spouse to reduce your income or capital gains tax bill wasn’t an abuse of the tax rules. So keep on shifting!