HUSBAND-AND-WIFE COMPANIES

Legal decision causes concern

Clients may have seen reports, in the ‘serious’ newspapers or in trade magazines, of the High Court’s decision in the Arctic Systems case. In that case, the Judge held that, where a business is carried on by a husband-and-wife company, but one partner (say the husband) actually does the work that earns the money, then dividends paid to the wife can be taxed as if they were the husband’s income. This would be significant where, for example, the husband pays tax at the higher rate and the wife at the basic rate.

The decision has caused a great deal of concern, with many family businesses wondering how it will affect their own tax situation. We think that, in practice, relatively few will be affected.

Arctic Systems itself concerned a freelance computer programmer who worked, as a member of a project team, on clients’ premises. Had he been paid direct by his clients, rather than through the husband-and-wife company he had set up, it would at least have been arguable that he was the clients’ employee, not an independent contractor.

The Judge was at pains to emphasise that his decision applies only where the husband-and-wife company exists only to exploit the husband’s (or the wife’s) earning potential and the other partner plays at most a support rôle (for example by dealing with VAT Returns and other administrative matters).

The Judge went on to say that his decision has no application to the situation where an independent business is carried on as a genuine joint venture by husband and wife – for example, where the company runs a shop in which both partners work. There is no suggestion that, in such a case, dividends have to be paid to husband and wife in proportion to the hours they work, or to the contribution each makes to the business, provided that each is doing enough to play an active rôle in the enterprise.

The final point is that the Arctic Systems case is going to the Court of Appeal, so the Judge’s decision is not yet final. No-one is seeking to extend the Judge’s decision: the question is whether, and to what extent, it should be cut down to limit its effect on cases where the facts are similar to Arctic Systems itself. It is expected that the Court of Appeal’s decision will be announced towards the end of this year and that HM Revenue & Customs will then discuss its practical effect with the Accountancy Institutes and other professional bodies and publish revised guidance.

IMPORTANT: This newsletter deals with a number of topics which, it is hoped, will be of general interest to clients. However, in the space available it is impossible to mention all the points which may be relevant in individual cases, so please contact us for personal advice on your own affairs.