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How close to the wind do you sail?

I have just lost a small growing business to an aggresive National firm and I want to learn from it.

Last year I discussed with the client the possibility of converting to a limited company since he looked as though he would be paying tax at higher rates in the current year. We were to consider the position again when we knew how well he was doing this year but unfortunately an introduction through a friend of his has seen me lose the client due to the level of savings being promised (current year profits could be c£70,000). It is not a one man service company.

It has been proposed to him that a new company is set up with ownership split 50/50 with his wife. Salaries will be set at minimum level for NI purposes, directors' loan withdrawals will be made during the year and dividends taken post year end to clear any loan account balance. The wife will do nothing in or for the business.

I have a tax partner with a conservative view of these types of arrangement and as a consequence we would not normally do anything as obvious or as close to the limits but I don't believe that I can ignore that fact that this type of arrangement is being actively promoted to my clients.

What views do others have and is there a danger that this type of arrangement will come under attack?

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01st Nov 2011 15:44

What I used to do...

From 2001 to 2008 I operated my own practice.

I gained huge amounts of business from local firms doing exactly what has been suggested to your former client going from £7k of GRF to over £500k in that time.

By the time I sold up I had been through about 9 proper enquires.

Never was the arrangements questioned... but then, maybe I was just lucky?

 

Steve

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01st Nov 2011 15:48

Wife's salary

The only thing wrong with the arrangement is paying the wife a salary without her doing anything. Surely she would be willing to do something for a salary?

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The only tax problem that I can see...

... is that the wife's salary might be disallowed if she performs no services for the business.

The thing I don't like about it is that the wife now owns half the business, which could present a problem if the marriage breaks down.

EDIT: I see Peter made the same point while I was typing!

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By Mallock
01st Nov 2011 16:07

The only activity the wife could get involved in would be a bit of book-keeping. It is a commission based business so the only expenses relate to travelling and general business expenses.

A decent book-keeper could keep the records up to date in about an hour a month.

However I am pleased to hear that these 50/50 arrangements appear to be perfectly acceptable - I will not let the grass grow under my feet.

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01st Nov 2011 16:12

Rate for the job

I don't think you can pay her about £500 an hour!

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By Mallock
01st Nov 2011 16:32

That was my thought too but it's no longer my problem.

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01st Nov 2011 16:41

In these circs., I recommend the wife does all the paperwork

Even if its just doing the preparation of invoice, PAYE payments (not necessary calculations), VAT Return preparations, expenses, etc. For a reasonable sized business it can easily add up to a day a month or so.

However, you've got to think about it from the same point of view as a mobile phone. The amount of call time required (i.e. actual work) is relatively small, but the amount of standby time required (i.e. being available if someone calls, dealing with inquiries, etc.) might be quite high.

In which case an annual salary of £5,304 might be a good deal. It just depends how much flexibility is required in the job.

However, on top of this you do have (presumably) dividends paid to the wife as well, but provided these are in accordance with Jones v. Garnett (also knows as “Arctic Systems”) then I doubt there is much cause for concern.

Provided the advice being given is in line with current law and you are able to defend this basis if challenged, then I can't see the problem. It's all perfectly legal tax avoidance.

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01st Nov 2011 16:51

Low salaries, 50:50 dividend split close to the wind?

Nope, just tame standard practice me hearties.

Try offshore EBTs - that's far more exciting.

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01st Nov 2011 16:57

Marriage breakdown

Any decent lawyer would look to get half the value of the company on a marriage breakdown whether or not the wife is a 50% shareholder.

I currently have a client whose wife owned none of the business he had to settle with the ex wife for half the value of his 50% shareholding and the the CSA were treating his dividend income as earned income even though he was drawing dividends in lieu of prior year profits - in fact the company went on to make losses. He was well and trully shafted!

 

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01st Nov 2011 17:00

Wife wages aren't a problem if she's a director

My understanding is that HMRC don't/can't argue about the quantum of wife's wages if she is a director as with that office comes legal obligations and responsibilities so her "pay" becomes more than for the hours worked.  Again, I've been through various enquiries over the years and never had a challenge re wife's wages where she's a director.  As long as IR35 wasn't in issue, I'd certainly go for a 50:50 shareholding with both H&B as directors.  I don't think it's sailing close to the wind at all.

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01st Nov 2011 17:18

Don't like it but...

There's two things here.  The establishment of the LtdCo which I'm afraid to say you ought to have been commending before the business hit the higher rate line.  There's £3K or so in NI to be saved by incorporation (though there are other considerations).  That side of it is very un-dodgy, although I hate the whole thing - it's an artificial construct to save payments and is a loophole in 90%+ of companies.

The second thing is the wife's payments which is again, pretty standard and post-Arctic there isn't even likely to be a fuss about the share divs either.

I'm afraid to say you should be using it as a wake-up call to see if you don't have other sole traders who could benefit from similar strategies and your tax partner will just have to get over himself.

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By SteveOH
01st Nov 2011 19:46

@Mouse007

Where do you get your images from? They're brilliant.

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01st Nov 2011 21:11

off the tinternet

SteveOH wrote:

Where do you get your images from? They're brilliant.

 

or whatwever we call it

and I've got a special one lined up for next time Shirley gets out of the wrong side of bed

(can't wait sniggers)

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02nd Nov 2011 06:53

Ha!

Mouse007 wrote:

and I've got a special one lined up for next time Shirley gets out of the wrong side of bed

(can't wait sniggers)

So ... you want a taste of Nora Batty's rolling pin, eh? Always the same with these little sniggering mouses who take the mick out of polite penguins!

ps. is that enough for us to see your 'special smiley piccy'? ;)

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By Luke
01st Nov 2011 19:47

Yep standard practice

I regularly have clients employ the wife on a £589pm salary or thereabouts.  I always make sure the wife does some work though and tell the client that they should be prepared to justify the salary at market rates for what she does.  Generally it is all the paperwork for the business but I do tell them to leave some trace of her amongst the paperwork, i.e. emails in her name, signatures on documents etc.

With regard to the share split, i feel slightly more comfortable with a 60:40 split and that is how most of my H&W companies are organised.  In most cases this keeps them both in the basic rate band anyway.

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By cfield
01st Nov 2011 22:33

Partnership first maybe?

If the client doesn't want to incorporate immediately, it may be a good idea for him to convert his business to a partnership with his wife first. The advantages are two-fold.

Firstly, he can pay her any percentage of the profits he wishes irrespective of how much (or how little) work she actually does. As far as I'm aware this cannot be attacked by HMRC as a settlement post Jones v Garnett and it would hopefully shift income from his higher rate band to his wife's basic rate band. Spouse transfers are of course exempt from capital gains tax so no problems there, provided there is no land or property involved, in which case they would need to pay SDLT on the market value and deal with any mortgage issues.

Secondly, when the partnership converts to a company it can credit part of the value of the business (including goodwill) to the wife, thus using up her annual CGT exemption and possibly reducing the incidence of 28% CGT on assets not qualifying for Entrepreneurs Relief (such as any on-going contracts less than a year old).

The only slight downside is that he will lose Entrepreneurs Relief on that part of the goodwill credited to the wife if she was a partner for less than a year, but it depends on how much this is worth.

Not sure how long the partnership would have to exist before it was incorporated for this to stand up, but I would certainly give it a few months or else HMRC could argue that the whole arrangement had no commercial basis and was principally a way of avoiding tax!

I wonder why your tax partner is so dead against normal tax planning for husband and wife companies. Sounds like he's costing you a lot of business!

Chris

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By Mallock
02nd Nov 2011 08:07

Thanks for the help. My tax partner is more in favour of a 75/25 arrangement with no salary unless a real job is being done - perhaps he is too long in the tooth! At least I now have the ammunition to move things forward.

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02nd Nov 2011 09:21

Mercia CPD perhaps?

jcw wrote:

Thanks for the help. My tax partner is more in favour of a 75/25 arrangement with no salary unless a real job is being done - perhaps he is too long in the tooth! At least I now have the ammunition to move things forward.

He's probably been to too many CPD courses where the speakers usually promise hell in a handcart for anyone wicked enough to go for the low salary:high dividend route, or bring in a spouse to share dividends.  I used to go to the Mercia lectures until one of the lecturers (Mark Morton maybe? apologies if I'm wrong) was basically telling everyone in the room to pay a proper market value salary under PAYE to all directors and only pay dividends out of what was left over.  His reasoning was that if too many people did it, HMRC would change the rules!  So, basically, he and his mates/clients wanted to do it but didn't want anyone else to!  Needless to say, I didn't renew my membership!  Trouble was that the room was full of the town centre accountancy practices and if they were seriously believing what they were hearing and putting it into practice, they were doing a major dis-service to their clients!

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02nd Nov 2011 09:23

Is now a time to be reasonable?

jcw wrote:

Thanks for the help. My tax partner is more in favour of a 75/25 arrangement with no salary unless a real job is being done - perhaps he is too long in the tooth! At least I now have the ammunition to move things forward.

I don't think your partner is long in the tooth, just trying to put a reasonable balance on things. Fair enough back in 1996, but in these 'squeezed' times clients feel the need to extract as much profit from the business as possible at the lowest tax rate possible.

As mentioned previously, I suspect this has cost you business in the past and will continue to do so. A change of approach and a blitz through your existing clients to see if anyone can be converted might bring in some (probably much needed) additional work right now.

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02nd Nov 2011 09:25

A Woman's Work...

Tax issues aside, your partner needs a wake-up call on the value of a wife to a business (this coming from a former male chauvinist).

Since Sprog 3 was recently packed off to school Yours Truly's missus has moved into the practice and surprised the hell out of me:

She fields all the calls from marketers and actually finds the occasional beneficial offer; she handles new sales enquiries and quotes; also spends good PR time talking with and emailing existing clients; our wasted marketing with Yahoo has now changed to a more effective and targeted Adwords campaign; we are being listed in the right directories for backlinks, and removed from the many Scoot-owned directories that attract nothing but marketing calls; our quotation, invoicing, and collection procedures have been standardised and systemised; our phone system now works as it was intended; our website has received a makeover; our trading name is now a registered trade mark; my room is no longer a mess; our bookkeeping offering to clients has been systemised; we have new and better logo, letterheads, and email templates; she fields calls from HMRC, "fan-club" clients who ring me too often, and spends many hours policing, re-negotiating and following up on everything from Orange phone bills to rates; our filing and archiving system has improved; she handles incoming routine email and correspondence, reads-over important documents, and is currently working on improving our computer back-up system.

Justifying "wife's wages" by saying she does the bookkeeping demonstrates a distinct lack of awareness. Looking at the above list, it's no wonder the Revenue don't put up too much of a fight these days over justifying a wife's input.

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02nd Nov 2011 09:38

Wife's Exposure

Another argument for justifying wives' dividends is the degree to which a wife bears the financial risk of the business.

I've used that argument successfully to justify the divs of a retired wife in her sixties and her fifty-something working husband. The business had originally started with their joint funds, although largely because she had inherited from her parents, and the postion was that the wife bore her share of the financial risk.

I suppose that argument would be strengthened by the fact that directors, wives included, are as likely as their husbands to receive personal liability notices, or even be open to charges of wrongful trading, in the event of their company's demise. (Although that particular line of argument wasn't necessary in my client's circumstances). 

So there it is: an alternative or an enhancement to a wife's input into the business - the degree of financial risk she bears.

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By djw090
02nd Nov 2011 12:17

Rental

If you go down the £589 per month plus divs route you may want to add something non NI able on top such as rentals so as to use the balance of the allowances.

Rental profit on the non exclusive home office is an easy one. Another is interest on the directors loan account.

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02nd Nov 2011 12:38

51:49

i would encourage 51:49 rather than 50:50.  I heard of one company (thankfully not a client, but an acquaintance) where husband ran off with the bookkeeper.  Wife had the cheque book and emptied out the bank account into her own bank.  Husband could not change signatories on the account without her agreement - which funnily enough was not forthcoming!

 

Otherwise, I have reservations about the salary but do the rest with my clients.

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