Can employing family members be tax efficient?

20th June 2019 News CHW Accounting

Having your spouse, civil partner or even your children on the payroll of your business can be tax efficient as long as HMRC are in agreement. Nicola Roby, Director, explains where you stand if HMRC challenges your claim for a tax deduction.

An area of contention between businesses and HMRC is whether an expense has been incurred “wholly and exclusively for the purpose of trade”. If it has not then no tax deduction is allowed. Bearing this in mind, a HMRC inspector’s interest will be more likely diverted towards the appearance of a payment in your payroll or accounting records to a spouse, civil partner or other family member.

HMRC will want to establish that the payments are a justifiable expense. They will want to establish that the family member actually works for the business rather than simply being paid to get money out of the business. They will also assess whether the work the individual does justifies the salary they are receiving.

Our advice is to maintain good records – this will go a long way in persuading an HMRC inspector that the salary paid to your spouse or child is legitimate. For example:

• retain the same personnel records as you would for all other employees, including a contract of employment
• include them on your payroll and actually pay them – the salary should not be just a bookkeeping entry
• when they first start working for you follow HMRC’s protocol for “starters” (there is guidance online)
• follow the workplace pension auto-enrolment procedure.

You should aim to pay the family member the going rate for the work they do and no more. If they are your only employee or have a unique role in your business, determining what the right level of pay is can be tricky. If you are in doubt, speak to us as we have experience of similar situations and will be able to suggest a suitable rate of pay.

If you have to concede a reduction in the amount you claim as a deductible expense, any associated PAYE tax and NI that has been paid is not refundable – tax and NI still apply even though you can’t get a tax deduction for the corresponding wages.

It’s important to understand that HMRC cannot disallow a deduction just because a tax inspector thinks the job your family member does is unnecessary. For example, you could create a job for your child during their summer break from university – to clean the directors’ cars or to re-paint the stationery cupboard and other areas of the office. Provided what you pay them is at the going rate for such work, HMRC can’t legitimately refuse a tax deduction.

In summary, deductions for wages paid to family members are only allowed if the work they do is “wholly and exclusively” for the business. Whilst HMRC can reduce the deduction if you pay more than the going rate for the job, this doesn’t stop you from creating a job for a family member and getting a tax deduction for the wages you pay them.

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