Contractor Accountants : S660 Settlements

The S660 rules, also known as ‘Settlements Legislation’, have been present since the 1930’s. The original rule stops you from passing income to someone else in the family, or giving income or assets to someone else in an effort to reduce your overall tax bill. This is called a “settlement”, the aim of the legislation is to also eliminate settling of income with an individual who pays a lower tax rate.

Husband & Wife Companies

In such companies, a husband and wife may – for example – each own an equal number of shares with one being the main fee-earner and the other being responsible for little or no fee income. By paying out profits by the way of dividend, income earned by one of the couple can be partly received and taxed on the other. Resulting in an overall saving on tax, as there will be two lots of personal allowance and basic rate tax band to use up. Currently a very common scenario with thousands of husband and wife companies using, what has always been deemed, an acceptable tax plan.

Over the past number of years, there has been uncertainty surrounding the taxation of family businesses. You’ll likely be investigated if openly abusing the dividend system, particularly where the main earner provides personal services and does not draw a market value salary, with dividends paid to shareholders on lower tax bands.

The legislation falls into difficulty when the company formation and the profit generated from the companies income is shared between spouses usually by not exclusively on an equal basis. In this scenario the primary income-generating spouse takes a small salary to maximise the dividend shared with the other spouse.

The settlements legislation normally applies where the individual, in receipt of the income, is the spouse or civil partner of the settlor (unless such a gift is outright and unconditional, and of the capital and income from that share).

Broad enough to cover cohabiters’ arrangements, the settlements legislation would normally apply when:

  • The settling party has retained some “reversionary interest” over the shares that have been issued.
  • It has been issued or given to the cohabitee (for instance a right to acquire the shares back or the right to enjoy proceeds from, or the income from, the shares given away).

If, for example, a non-working cohabiting party receives a dividend paid direct into a joint bank account, or pays a share of a joint mortgage, then the cohabite would be considered to have retained an interest. The best way to be sure of avoiding an issue is to make the jointly owned company, or partnership, as commercial an arrangement as possible.

The Inland Revenue does acknowledge…

Where a business has real substance with employees, premises and the profit earning is not just down to one shareholder, s660 should not apply. In other cases there are some simple steps that can be put in place to provide some protection:

  • Avoid having differing classes of shares. Preferably, all shares should have the same income, capital and voting rights.
  • Where possible, both parties should contribute to the company’s business and there should be documented evidence of this.
  • Both parties should subscribe for shares from their own resources and introduce real value to the business.
  • Dividend waivers should be avoided.

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