The S660A rules (or settlements rules) the Inland Revenue use have been in place for many years. However, in the last couple of years, they are using them in a way which had never before been considered as being under the remit of S660.
The original rules stop you passing income or assets temporarily to someone else on a temporary basis on the understanding that you will reacquire it later, in an effort to reduce your overall income tax bill. Understandable, you ’d probably agree, but what if you apply this logic to small companies?
If two people set up a company, with one party generating the revenue and the other taking care of the accounting and administration, they would share the company’s income and have two sets of personal allowance and basic rate tax band. Most would agree that to operate a company in this way is a common scenario and not a sinister means of tax avoidance.
Unfortunately the Inland Revenue disagrees, and has flexed its muscles in the past with cases like the Arctic Systems case (Geoff and Diana Jones), heard at the Special Commissioners recently. Here things get complicated.
The Revenue's argument is that if the wife’s income stems mostly from the husband’s work, then he has given her rights to his income, i.e. the dividends she gets on her shares in the company, and therefore this should fall under S660A as a settlement.
Controversially, Arctic Systems lost their case even though the decision was not unanimous. Expert advisers are now calling for the ruling to be challenged since the presiding commissioner had a casting vote, effectively giving him two votes. The PCG are raising funds to appeal the decision.
Will I get caught?
If you have set up a limited company, are a knowledge-based worker and your partner, parent, or sibling owns any shares in that company, without earning an income from it, then yes, you could potentially get caught.
Having said that, the Inland Revenue only pursues about 50 enquiries a year at the moment. They have also recently vowed to clarify tax rules for the hundreds of thousands of ‘husband and wife’ companies that use dividend payment as a means of income.
What will it cost me if I’m caught?
If you do get challenged by the Revenue just check to see how much your tax your spouse has paid on her income in the last six years at either the zero or basic rate of tax, then multiply that by 25%. Add to this interest compounded at about 6% a year on the outstanding amount and you will have a rough idea of how much tax they’ll be asking for.
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