When going through your limited company formation with Genie Accountancy, you will need to decide on share structures, deciding these early on will determine what dividends your shareholders are entitled to. The share capital of a company represents the ownership structure and investment into the company. The majority of contractors who are setting up a limited company choose to own 100% of their company, through the issue of just one share.
Shareholders invest in companies in the expectation that they will make a return on their investment. This return is paid in the form of dividends. When a dividend is declared all shareholders are entitled to receive their share in the same ratio as shares are owned.
Further shares in a company can be allotted, to anyone over the age of 18 therefore, it is possible to give shares to your spouse or to a business partner. When allotting shares in your company, careful consideration should be given as to the reason for the allotment and if necessary a shareholders agreement should be drawn up to protect the rights of all parties in all eventualities. Even at the onset of a business relationship and the allotment of shares you should consider future events such as one party wishing to leave and/or company closure.
Dividends, the return on a shareholders investment, are a tax efficient method of withdrawing funds from your company. As such many contractors have sought to maximise their tax planning by allotting shares in their company to their spouse.
In order to prevent an individual from gaining a tax advantage by making arrangements to divert their income (or part of it) onto a third party who is liable to pay tax at a lower marginal rate, the Settlements Legislation known as Section 660 has been applied.
Put simply - the legislation looks to see if a transfer of shares from one person to another has been carried out to "share" the tax burden on income drawn from the limited company. If the transfer is deemed to be at below market value, for instance a gift and the original shareholder still retains an interest in the income generating asset, i.e. the company, HMRC may seek to catch the transfer under the Settlements Legislation. The transferor would then be assessed on the value of the income given away generated by the asset that they still retain the interest in.
Arctic Systems is the most famous test of the Settlements Legislation in relation to a personal service company. The House of Lords found in favour of the taxpayer based on the facts and set the precedent that a transfer between husband and wife was a Settlement but one that fell under a spousal gift exemption.
If considering allotting shares to a spouse consider the following:
- Consider the % allocation in line with their role in the business. Will they generate income for the business? Do they undertake vital back office tasks, without which you could not complete you contracts?
If you can answer yes to these questions you have strong commercial reasons for rewarding them with a share of the business and therefore their dividend income.
- If you decide to change shareholdings between you and your spouse more than once, HMRC may seek to say the Spousal gift exemption does not apply.
- If you make a dividend payment shortly after a share transfer, HMRC may try to argue that the transfer has been made "wholly or substantially" for a right to the income as there was an expectation that the dividend payment was about to be made.
- If you transfer shares when reserves in the company are high, HMRC may argue that again the transfer was "wholly or substantially" for a right to income and there was an underlying expectation that they would receive a large amount of dividend from the shares.
