As a contractor, you want to spend as much of your working time as possible on fee-paying work so getting someone else to undertake non-paying tasks can make a lot of sense. Some need help with paperwork, or answering the phone. Others need to work on their website or social media presence, but they can’t keep up with that and earn money at the same time.

If you’re lucky enough to have family members who want to get involved, this can save you the time, effort and expense of advertising and vetting potential candidates, and you can get all that extra work done by someone you trust.   

Tax advantages of paying a salary to family members

Any salary your company pays is deductible as an expense, which means your company’s corporation tax bill is reduced. Of course, the person you’re paying then has to pay tax on their salary, but depending on their other earnings, their allowances may still reduce your household’s overall tax bill.

For example, imagine you’re considering paying your spouse for the admin and clerical work that they do for your company. Assuming they have no other earnings:

A salary of £1,047/month (£12,570/year) or less attracts no income tax. Your spouse would have to pay national insurance at 12% of everything over £797/month, and your company would have to pay employers national insurance at 13.8% of the same amount, but most, if not all of this can be recovered by claiming employment allowance (see below).

Your company would save 20% of the amount paid in corporation tax.

Assuming a salary of £1,047/month:

Employment Allowance

If your company has more than one employee, you can recover some employers’ national insurance by claiming Employment Allowance. This means that employing a family member (meaning your company now has two employees) can significantly reduce the amount of employers’ NI your company pays. You can claim the amount your company has paid in employers’ NI, up to a maximum of £4000.  

Pensions Auto-Enrolment

One-person companies are automatically exempt from pensions auto-enrolment, which means your company doesn’t have to provide you with a workplace pension while you’re the only employee. Once you employ someone else you may find that you do need to offer a workplace pension. Contact your accountant to find out if this applies to you, and what action you need to take.

Potential pitfalls

Commercial justification

If you’re going to pay a family member, it’s important that there’s a genuine business reason for it. Your family member should be paid a commercial amount, for work that they’ve actually completed, and you should be able to prove that this is the case. Make sure you set the salary at a reasonable level for the work being done. It will be difficult to justify paying your teenage son £100 an hour to clean your office and do your filing, for example, but if he’s writing code for your website it might be a different matter. Think about what you’d pay someone who wasn’t related to you, and that should keep you in the right area. Keep records of hours worked and work completed, just like you would for a non-related employee.

National Minimum Wage

Whether they’re related to you or not, you have certain legal obligations to your employees, and one of these is to pay at least the National Minimum Wage. See the table below for the current rates. This is another reason why it’s important to keep a record of the hours your family member works – so you can prove they’ve been paid at least NMW.

Payment must actually be made

In the same way that payments must be commercially justified, they must also actually happen. You can’t simply include your spouse’s allowances in your tax calculations – you’ll need to have evidence of the money being paid to them. We recommend using bank transfers where possible, so there’s a clear audit trail of money being paid from your business account to your family member.

Employing children

Children can work part time from the age of 13, as long as it’s “light work” and doesn’t endanger their health and safety or interfere with their education. They can work full time from the age of 16, but must continue to participate in education or training until the age of 18. Local authorities often have their own rules, so if you’re considering involving your kids in your business it’s worth checking what the rules are in your area.

Making your spouse a shareholder in your company

As an alternative to paying a salary, you could make your spouse a shareholder in your company, allowing them to receive dividend payments instead.  Dividends are paid according to the proportion of share ownership, so if your spouse owned 20% of the shares, they would receive 20% of any dividend paid.

Tax on dividends is lower than on salary, and they don’t attract national insurance contributions. However, they’re paid from post-tax profits, so they don’t attract corporation tax relief, like a salary would. Also, as your spouse would not count as an employee, you wouldn’t be entitled to employment allowance. We recommend talking your specific position over in detail with your accountant before making a decision.

If you’re transferring shares in your company purely to take advantage of your spouse’s allowances and reduce your tax bill, you could fall foul of the Settlements Legislation. HMRC can use this to insist that you pay tax as if all dividends had been paid to you, rather than split with your spouse.

To avoid this, there should always be a reasonable business reason for the decision to transfer shares, over and above any tax planning considerations. It’s important that the shares transferred reflect the contribution your spouse makes to the business, and we usually recommend that the fee-earning partner retain at least 80% of the shares.

If you have any questions about paying family members, or if Orange Genie can help in any way, please contact our expert team on 01296 468483 or email accountancy@orangegenie.com