Your spouse has been out of work for several months. What are the tax and NI advantages and risks of paying them a salary until they find another job?
Tax saving
It’s a topic frequently discussed in the tax world and the subject of many HMRC enquiries; namely the tax and NI consequences of a business owner paying their spouse a salary. In theory it can save tax for your business and you personally. The example below shows how.
Example. Don owns Acom Ltd, a construction firm. He’s a higher rate taxpayer. His wife Ivana was made redundant in March 2024. Since then she’s had no income apart from a little bank interest. In April Don put her on his firm’s payroll at £500 per month. At this level there are no tax or NI bills to worry about. What’s more, it reduces Acom’s profit which saves it corporation tax (CT) equal up to 25% of Ivana’s wages. As there’s £6,000 less profit per year, Don takes correspondingly fewer dividends from Acom. This saves him tax of £2,025 (£6,000 x 33.75%).
Losing the tax advantages
If HMRC spots that Ivana has been added to the payroll it’s quite likely to take a closer look and possibly ask questions about what her role is in the business. It can’t stop Don from paying his spouse, but it can refuse to allow the corresponding CT deduction for as much of her salary as it believes is not justified by the work she does for Acom.
Trap. You might think that even without CT relief the arrangement is still saving Don income tax on the £6,000 paid to Ivana that he would otherwise have as dividends. The trouble is, HMRC could argue that because Ivana does nothing in the business in return for her pay, it is actually a gift from Don. If it succeeds with this argument Ivana’s salary would be taxable on Don and this would eliminate any tax saving. But that’s not the end of the bad news.
State pension rights
If Don is not bothered by the tax saving he might consider bumping his spouse’s salary up just a little to reach the NI lower earnings threshold (£533 per month for 2024/25). According to what he’s read this should at least give Ivana credits towards her state pension.
Trap. Unless salary is paid for “gainful employment” it doesn’t count as earnings for NI purposes and therefore won’t qualify for pension credits. While in practice it’s unlikely that HMRC would spot this it might, especially if it’s already challenged the tax position.
Management services
It’s apparent that paying your spouse from your company doesn’t gain you a tax or NI advantage unless they have a genuine role to play in the business. There is a way to achieve this even if your spouse doesn’t have the skills to be directly involved with your company’s trade.
Tip. HMRC won’t object to a salary paid for management services, such as looking after the company’s statutory obligations, e.g. dealing with Companies House. You could also make your spouse a non-executive director (NED). While being a NED doesn’t necessarily involve much work it justifies a salary as it involves taking on the legal responsibilities of a director. For example, attending directors’ meetings and providing ad hoc advice on management issues. Being a NED should justify to HMRC a salary of least a few thousand pounds per year and so validate the tax savings that go with that.
This article has been reproduced by kind permission of Indicator – FL Memo Ltd. For details of their tax-saving products please visit www.indicator-flm.co.uk or call 01233 653500.