Breaking finance and business news, tax information, jobs and more for finance directors and senior finance professionals.

CIOT and ICAEW voice concern over draft legislation on income splitting

Thursday, 06 December 2007

Fundamental reform to the structure of small business taxation is necessary if small businesses are to be able to plan their tax affairs with any degree of certainty, the CIOT and ICAEW have said.

The Chartered Institute of Taxation (CIOT) said it had grave concerns about the implications of the draft legislation on income splitting which was published on Thursday.

Andrew Hubbard, CIOT Vice-President, said, “The CIOT accepts that what it prefers to regard as 'income sharing' within members of the family unit is an issue which would need to be considered as part of that reform, but regards it as wholly wrong for the Government to deal with this one issue in isolation."

Given that the Government has chosen to introduce these measures in the wake of the so-called Artic Systems court case, however, the CIOT said it is clearly in the interests of all taxpayers that they operate effectively.

Andrew Hubbard said that the legislation imposes an arm's length test and requires taxpayers to work out how much income they have 'foregone' by making a comparison with how the business would have operated had everything been done by independent third parties operating on a fully commercial basis.

“In theory this might seem fair, but the reality is that family businesses do not and cannot possibly operate on a fully arm's length basis. One spouse might be the main income generator but he/she may well be totally unable to run the business without the full support of the other,” Hubbard continued.

“Measured purely in hours that spouse’s input may not appear to be significant, but that is not the reality of the situation. The support of the spouse may well be the difference between the business succeeding and failing,” he added.

The Institute of Chartered Accountants in England and Wales (ICAEW) warned that proposed new income shifting rules will lead to greater uncertainty for many owner-managed businesses.

The proposed new rules are aimed at businesses where one person does most of the work, but tax is saved by transferring income to another person who may not have earned it. The changes are meant only to affect those who split dividends or profits so as to move income from a higher to a lower rate taxpayer; however the ICAEW believes that many commercial arrangements may also be caught.

Francesca Lagerberg, Chairman of the Technical Committee at the ICAEW Tax Faculty, said, “The proposed income shifting rules are very widely drafted. They will catch many owner-managed businesses involving husbands and wives and other family members. The difficulty will be working out whether they are caught by the definition or not. This will lead to yet more uncertainty for many entrepreneurs, who are likely to have to spend much more time looking over their shoulders to see if HMRC will attack their structure.”

Lagerberg added that HMRC has provided a lot of detailed examples but most are very simple and do not take into account the real complexities of most businesses.

"Many spouses do not have formal meetings to discuss their business arrangements, they just have their own way of working together. Owner-managers will need to try and establish whether their existing dividend or profit allocation is still acceptable and for many businesses this will be no easy task," she said.

The ICAEW urged businesses to review the HMRC consultation document and to respond to its questions before the legislation is finalised.

“The more practical examples that HMRC receive, which show where this will cause real difficulty, the better the chance of change. If HMRC wants to make this work it will need to consider offering some form of clearance procedure to help taxpayers work out where they stand," Lagerberg concluded.

Related articles

Related links