HMRC Challenges on Entrepreneurs’ Relief and Dividend Planning – BEWARE

entrepreneursrelief

Keeping up to date with technical developments is difficult, especially with so many updates these days, when it is difficult to sort the wood from the trees.

With the possibility of dividend planning many companies have chosen to have different classes of shares. In our experience they have not always thought through the wording of the proposed amended Articles or had legal advice, which has led on occasion to HMRC challenges. Many though have probably not been subject to HMRC enquiries so have muddled through, because the parties internally ‘knew what they meant to say’.

Attacks on dividend planning are now getting more ‘fashionable’ with HMRC seems to be the underlying message, taking in certain arrangements with ‘alphabet shares’ and dividend waivers.

The latest development may go beyond those arrangements and affect long term capital gains tax planning.

The current Finance Bill contains provisions whereby if there are different classes of shares in a company it may be difficult for a shareholder to show he has met all the new requirements to qualify for Entrepreneurs’ Relief. Of course, this is not yet law, but checking the position on such a valuable relief would be prudent. With the new qualifying period due to increase to 2 years from 1 year it would be wise to do this sooner rather than later, so as to implement any changes necessary as early as can be managed.

Spring Budget 2017 and End of Year Tax Planning

This year’s budget did not bring a great deal for advisors to get their teeth into.  There are some points that will certainly affect millions of taxpayers though, so we have summarised the key points below.

There are also steps that taxpayers should consider taking before the end of the tax year, when various new rules and rates will come into effect.

  • The tax-free dividend allowance (the band on which dividends could be received free of income tax) is to be reduced from £5,000 to £2,000 from April 2018. Having only been introduced in April 2017 the allowance is already being reduced which will affect all taxpayers receiving dividends, including business owners and investors.

 

  • There will be a 1 year delay for quarterly reporting under the Making Tax Digital (MTD) rules for businesses that have a turnover below the VAT threshold (£85,000 for 2017-18). This will be good news for those businesses but unfortunately there do not appear to be any changes to these controversial proposals for other businesses.  Plus, the so-called pilot scheme will not have run its full course, so there is no chance of everyone learning lessons from the process.

 

End of Year Planning

 

  • Residential property rental. From April 2017 the phasing in of restrictions on relief for interest costs for higher rate taxpayers will begin. Initially 25% of such costs will be affected, however this will rise 25% each tax year until all higher rate relief on finance interest is blocked.

 

  • If pension contributions or pension scheme planning might be desired, setting up and contributing to a pension scheme before the end of the tax year (if one is not already in place) could ‘bank’ allowances for the year under the carry-back rules. Those with existing pension schemes have until the end of this year to use up any unused annual allowance from 2013-14.

 

  • If possible, consider declaring dividends where the tax free allowance of £5,000 has not been used up yet.

 

  • Consider new deemed domicile rules if non-UK domiciled. From April 2017 deemed domicile rules may apply to individuals who have been resident for 17 of the previous 20 years.  Previously these only applied to inheritance tax but the new rules extend to income tax and capital gains tax meaning those affected will have to report their worldwide income and gains on an arising basis.

A Payment Cannot be Both Dividend and Employment Income

PA Holdings Limited constructed a complex arrangement in order to try and ensure employee bonuses were taxed as dividends rather than employment income.  The company paid a capital contribution into employee benefit trusts, out of which bonuses were paid to select employees in the form of dividends.

The First and Upper-tier tribunals decided that the payments were employment income under Schedule E and dividend income under Schedule F. The effect of this being that they were not chargeable to tax as employment income, only as dividends; but they were earnings for the purposes of NI contributions.

Both parties appealed to the Court of Appeal.  The Court of Appeal overturned the Upper Tier Tribunal ruling that income can be in both schedules E & F. The judge stated that if income falls within Schedule E, it is precluded from falling within Schedule F.

The Court found that the income fell within Schedule E as the amount of payment received by the employee was dictated by the employer.  Therefore the payments were remuneration for employment and subject to Income tax and NICs accordingly.