Insights

Corporation tax is being increased to 25% from April 2023, representing a significant jump from the current 19% rate. This will affect all limited companies with profits above £50,000. Given this change is on the horizon, it is worthwhile considering how to mitigate the increase with some careful tax planning.

Where appropriate, one  efficient way to reduce the increased corporation tax liability and at the same time extract cash from a business, is to pay a salary to a family member, e.g. the director’s spouse or their working age children. Clearly, the employee would need to be performing services legitimately and be paid at the normal market rate for those services. In addition to the tax planning benefits, another good reason for paying a salary to a spouse is to help them amass NIC credits and secure their state pension entitlement. Their salary will also count as relevant earnings to enable private pension contributions.

The arrangements for payment need to mirror those of any other employee, for instance the salary should be paid into the family member’s personal bank account and be recorded in exactly the same way as any other employee payment. They should also be included in payroll reports for Real Time Information compliance.

How much salary to pay

When considering employing family members, for salary payments to qualify as an allowable deduction against corporation tax, the individual must be genuinely earning what is being paid and the amounts being paid should be commensurate with the role, their skills and experience.  Their working time also needs to be spent wholly and exclusively on the company’s business.

Example

Jasmine is being employed as an admin assistant by her father who owns a small shop. She is paid £11,908. NICs are not payable by Jasmine for 2022/23 on her salary of £11,908, but the company pays employers’ NICs on the salary amount in excess of £9,100 (a liability of £442.60). Corporation tax relief is available at 19% (shortly to increase to 25%) on the gross salary plus employers’ NICs.

By paying Jasmine £11,908, she also receives NI contributions towards the state pension without having to pay employee's NICs.

Understanding the settlement rules

Some business owners have split their income with a salary payable to their spouse, thereby  achieving a lower marginal tax rate. However HMRC have settlements legislation to counter this behaviour.

Care needs to be taken to ensure that any payments do not fall foul of the 'settlement’ rules. The key issue to address here is is whether the family member is genuinely earning a PAYE salary or whether the company director has just created a ‘settlement’ to transfer their own income. If the latter scenario applies, the settlor- the person distributing the income, will still be liable for income tax on that income.

If you would like business tax planning advice, please contact RJP via partners@rjp.co.uk