Putting spouses and children on the payroll of your business can be tax efficient as long as HMRC are willing to accept the validity of doing so, but where do you stand if they decide to challenge your claim for a tax deduction? Tax expert Brona MacDougall provides you with some very good advice.
In deciding if something is tax deductible or not, an area that is particularly contentious between businesses and HMRC is whether an expense has been incurred ‘wholly and exclusively for the purpose of the trade’. If it has not, then no tax deduction is allowed. With this rule in mind, a tax inspector’s interest will be particularly raised by the appearance of a payment in your payroll or accounting records to a spouse or other family member, and if so, questions will often follow.
HMRC will first want to establish that the family member actually works and is not being paid just to get money out of the business. It will then assess whether the work that they do justifies the salary that you’re paying. On this point HMRC’s internal guidance manual states; “So where there is equal pay for equal value the amount paid is fully allowable, notwithstanding any connection between payer and recipient”.
Keeping good records will go a long way in persuading the HMRC inspector that the salary paid to your spouse or child is legitimate.
• Keep the same personnel records as you would for any other employee, including a contract of employment
• Include them on your payroll and actually pay them, the salary should not be just a book-keeping entry.
• When they first start working for you follow HMRC’s protocol for ‘starters’.
• Follow the workplace pension auto-enrolment procedure.
Pay the going rate!
Aim to pay your family member the going rate for the work they do and no more. If they are your only employee or have a unique role in your business, determining what the right level of pay is can be tricky.
If in doubt, speak to one of team at JRW as we will have experience of similar situations and can suggest a suitable rate of pay for the role.
But, if despite your efforts, you have to concede a reduction in the amount you claim as a deductible expense, remember that any corresponding PAYE tax and NI that has been paid is not refundable. Tax and NI still apply even though you can’t get a tax deduction for the corresponding wages.
It is important to understand that HMRC has no grounds to disallow a deduction just because a tax inspector thinks that the job your family member does isn’t necessary. For example, you could create a job for your son or daughter during their summer break from university to clean the directors’ cars or to re-organise an area of the office. Provided what you pay them at the going rate for such work, the tax inspector can’t legitimately refuse a tax deduction.
Creating a job in your business can be a tax efficient way to put extra cash in your family member’s pocket that you might otherwise have to pay out of your taxed income.
But remember, deductions for wages paid to family members are only allowed if the work they do is ‘wholly and exclusively’ for the business. HMRC can reduce the deduction if you pay more than the going rate for the job but this does not stop you from creating a job for a family member and getting a tax deduction for the wages that you pay them.
As ever, if you would like further advice on the issue of employing close family members and whether this is tax deductible or not in your business, then don’t hesitate to contact me or one of the team here at JRW.