Keeping it in the family and tax deductible?

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Finance specialist Michael Lansdell points out the potential tax pitfalls in employing family members

Do you plan to give your child a paid role helping out at the practice during the holidays, or while they are looking for something permanent?

If so, you will be interested in a recent case, when the First-tier Tax Tribunal (FTT) ruled on tax deduction for children’s wages.

The taxpayer (AN) had paid his son a rate of £10 per hour for 15 hours of work per week, comprising of various tasks to promote his business. The problem was that AN had not kept adequate paperwork and presented insufficient evidence to support his claim for a deduction, so HMRC doubted how much work his son had done. In his explanation, AN said that his son had been paid with a combination of cash into his bank account and also payment in kind – he had bought him goods and services.

HMRC applied the “wholly and exclusively” rule to argue that none of the work that AN paid his son was deductible. To qualify for tax relief, an expense cannot serve two purposes at the same time. Either an expense is business related, or it is not. The records AN did manage to produce gave the impression that he was mainly paying his son’s wages by covering his living costs. This meant it became a personal expense.

When the case went to the FTT, it upheld HMRC’s decision. It followed a previous precedent that HMRC had also used (Dollar v Lyon 1981) where a court ruled that wages paid by a farmer to his children were out of “natural parental love and affection”. This meant it had found simultaneous business and non-business reasons for the expense.

A solution?

If you are fastidious about record keeping, you might still be able to ensure your deduction for children or family members’ wages. If it is incidental to the main business purpose, the non-business aspect of an expense can be ignored. This could include things like the cost of overnight accommodation for a business trip.

Avoid the pitfalls. Have a proper contract agreement, make payments via payroll and use the business bank account, not your own. Pay family members the same rate as you would if they weren’t related to you. Report hours worked and the nature of their role. Finally, enlist the services of an expert, such as the chartered accountants at Lansdell & Rose to help you comply with the rules.

Visit www.lansdellrose.co.uk or call Lansdell & Rose on 020 7376 9333.