appointing parents as shareholders in limited company

[qorda]

Hi all
I am about to change my status from a sole trader to limited company. I am unmarried.
For tax reasons I wonder if it will be worthwhile to include my parents as share holders in the limited company alongside me.
The company will run on basis of my technical services that I offer to clients and I will draw a nominal salary and dividends, while my parents will be dormant shareholders and will get only dividends.
I am proposing 60% shares for myself and 20% shares for each of them. They are both retired and without any source of income or pension. I bear the cost of their living after paying high 40% tax from my pocket, so why not let them benefit directly from ltd company after 20% corporation tax.
I understand that if I want to include them after the company has been formed, there can be complication so I intend to do this at the time of company formation.
Is this a solid strategy or wall of sand
Please explain as you would to a simpleton with minimal jargon and in some detail.
Thank you

[malvolio]

Please explain as you would to a simpleton with minimal jargon and in some detail.
Thank you

S660a, and diverting your income to a connected person (in this case a close family member) to avoid paying taxes.

The money will have to be taxed in full as though it was your income. If you could guarantee that their money will never come to you in any way - and that includes paying for things you currently pay for out of your income - you might be OK, but you can't.

HTH

[northernladuk]

You could of course either A) speak to your accountant first or B) Do at least the a tiny amount of research in to this first so you can understand the basics before asking the board for help?

There is a link to S660 on the right you could read or even google it would find your answer.

[Martin at NixonWilliams]

The money will have to be taxed in full as though it was your income.

^^Agreed - It is as simple as that really.

As nluk says, there is a guide on the right hand side of the page called S660, have a read of that to gain an understanding - Then find somebody who will marry you!

[Wanderer]

It's a tricky one all right. Read the link to the right about S660 and do a google to see what the law is. I initially thought that this was a complete no go area but doing some more reading it seems it's a bit of a grey area and "provided that a gift is without condition and not wholly a right to income, you should be outside the scope of an HMRC challenge".

The Arctic systems case (husband and wife, I know but bear with me) established that since the shares were "ordinary shares" which came with voting rights (a valuable right in itself) then it wasn't simply a "right to income". That was a case between a husband and wife so it's a lot more clear cut than giving shares to a family member. You must also understand that they money paid to the shareholders is their money and you can't make it a conditional arrangement, take it back off them or receive any other benefit from the money (eg, they buy a car/house which you have use of).

Also be aware than if the shares are all of the same class then you must pay the dividends in proportion to the shareholding (eg, 60/20/20%) and you can't just withhold a dividend from two of the shareholders because you don't want to pay it to them.

It is sailing pretty close to the wind, you might get away with it or you might be prosecuted for tax evasion and have to pay tax on the income plus penalties and interest. You definitely need to get detailed professional advice on this one and discuss it with a tax advisor who has successfully defended such an arrangement against an investigation by HMRC but S660 is your starting point.

[northernladuk]

^^Agreed - It is as simple as that really.

As nluk says, there is a guide on the right hand side of the page called S660, have a read of that to gain an understanding - Then find somebody who doesn't work that will marry you!

FTFY

[Martin at NixonWilliams]

It's a tricky one all right. Read the link to the right about S660 and do a google to see what the law is. I initially thought that this was a complete no go area but doing some more reading it seems it's a bit of a grey area and "provided that a gift is without condition and not wholly a right to income, you should be outside the scope of an HMRC challenge".

The Arctic systems case (husband and wife, I know but bear with me) established that since the shares were "ordinary shares" which came with voting rights (a valuable right in itself) then it wasn't simply a "right to income". That was a case between a husband and wife so it's a lot more clear cut than giving shares to a family member. You must also understand that they money paid to the shareholders is their money and you can't make it a conditional arrangement, take it back off them or receive any other benefit from the money (eg, they buy a car/house which you have use of).

Also be aware than if the shares are all of the same class then you must pay the dividends in proportion to the shareholding (eg, 60/20/20%) and you can't just withhold a dividend from two of the shareholders because you don't want to pay it to them.

It is sailing pretty close to the wind, you might get away with it or you might be prosecuted for tax evasion and have to pay tax on the income plus penalties and interest. You definitely need to get detailed professional advice on this one and discuss it with a tax advisor who has successfully defended such an arrangement against an investigation by HMRC but S660 is your starting point.

For HMRC to successfully challenge whether a right to income exists, the asset being transferred must be 'wholly or substantially' a right to income. In Arctic systems it was held that the assets were not wholly or substantially a right to income as there were other rights, namely the right to vote and the right to assets on winding up of the company. With this in mind, I agree with Wanderer in that the right to income issue can be overcome with an outright, unconditional gift of ordinary shares.

Having said that, the gift of an income bearing asset to a non-spouse would almost certainly be caught by the settlements legislation in my opinion. The main advantage of a gift between spouses is that the asset can be transferred without consideration. In this case, the parents would need to pay a market value for the shares, and putting a value on shares in a contractor company is very difficult. For example, the company could go on to trade 6 months and earn distributable profits of, say, £50,000. On the other hand it could trade for 20 years and earn distributable profits of £20m! In each of these cases each parent could earn as much as £10,000 or £4m!

My overall view of this is that if a realistic market value is paid for the shares, you might be ok. However, I feel HMRC would challenge this as it seems a clear way of diverting the income to avoid tax, especially given that his parents have no income.

[TheFaQQer]

My overall view of this is that if a realistic market value is paid for the shares, you might be ok. However, I feel HMRC would challenge this as it seems a clear way of diverting the income to avoid tax, especially given that his parents have no income.

Given that the parents have no income and no savings (or else they would use that instead of relying on the OP), then the chances of them being in a position to pay a reasonable sum for the shares is going to be negligible.

[northernladuk]

Please explain as you would to a simpleton with minimal jargon and in some detail.
Thank you

HMRC bad men, want your money. You give your money away without giving HMRC some. Make HMRC angry. Don't do it.

[TheCyclingProgrammer]

Having said that, the gift of an income bearing asset to a non-spouse would almost certainly be caught by the settlements legislation in my opinion. The main advantage of a gift between spouses is that the asset can be transferred without consideration.

I suppose you're making the argument that a gift of transfer at below market value would be a "bounteous arrangement" which would be enough for the the transfer to be considered a settlement, true.

However the legislation is quite clear that a settlement is only taxed on the settlor if they (or their spouse) retain an interest in the property (or any derived income).

Income which arises under a settlement is treated for income tax purposes as the income of the settlor and of the settlor alone if it arises—
(a)during the life of the settlor, and
(b)from property in which the settlor has an interest.

My view matches that of Wanderer's - the more connected you are to somebody, the more likely it is that HMRC would argue that you retain an interest in the shares, but that doesn't necessarily mean it is the case.

HMRC obviously haven't had much luck in pursuing this and haven't seemed to even bother for a while. Interestingly, the most recent case I could find reference to involved the gifting of shares to family members and HMRC argued there was a retained interest...and lost.

From the PCG: https://www.pcg.org.uk/tax-status-an...wins-accountax

Ted gifted shares in his successful company for a nominal consideration to members of his family including grand children. The shares attracted dividends that HMRC tried to tax on Ted under the settlement rules known as s660. To make a settlement stick HMRC have to show that there was an arrangement of some kind and there was bounty. That is to say the recipients of the shares received something for nothing or at an undervalue. The final test is that the settler Ted had to retain an interest in the property (the shares) or in the income arising.

HMRC could tick the first two boxes but not the last because Ted no longer had any interest in the shares or the dividends arising.

They tried to say Ted had retained an interest because he was sole director and could if he wanted have not voted for any dividends or even could have taken all the company profits as salary.

And:

Accountax successfully argue that despite signing the contract settlement HMRC could not sustain that there was a “retained interest” and as such the contracts Ted had signed with HMRC should be rescinded.

So I would argue that if there are no dividend waivers, the shares are ordinary shares and gifted unconditionally, that dividends are paid directly to the parents, none of the money makes its way back to the OP and he derives no obvious benefits from the money, then he wouldn't be caught.

The reason why this is such a tricky grey area, is that the point about whether or not somebody derived a benefit or retained an interest the shares isn't always clear cut. There are times when it is clear cut (e.g. the shares have some conditions attached to them or there is an arrangement that the shares would be given or sold back to the settlor) but beyond that, you'd have to argue the toss with HMRC. If they even challenged it, which they are increasingly unlikely to do IMO.

Here's the relevant section regarding retained interest:
http://www.legislation.gov.uk/ukpga/2005/5/section/625

Paragraph 1 is the most important bit.