What is a dividend diversion scheme?
HMRC consider that such a scheme is set up to avoid tax by allowing director shareholders to divert dividend income to their children by facilitating a transfer of shares in their company to them. The children can then receive dividends which, as an example, may be used to fund the child’s school fees or other various expenses. An overview of how such a scheme often works is set out in a recently published piece of guidance by HMRC, informing taxpayers that these schemes are currently in the spotlight, as follows:
- a company issues a new class of shares which usually entitles the owner of the shares to certain dividend and voting rights.
- person A, usually a grandparent or sibling of the company owner, purchases the new shares, often for an amount significantly below market value.
- person A usually gifts the shares to a trust or declares a trust over the shares for the benefit of the company owner’s children.
- person A or the company owners vote for substantial dividend payments in respect of the new class of share.
- this dividend payment is paid to the trustees of the trust.
- as the beneficiaries of the trust, the company owner’s children are entitled to the dividend.
Although the children would pay tax on the dividends received, they would pay less tax on said dividends due to the availability of personal allowances, the dividend allowance and the availability of the basic rate tax band which their parents would not usually possess.
Does the scheme work?
HMRC’s view is that this type of planning does not work because it falls within specific anti-avoidance legislation. This legislation ensures that where a parent gives an asset to their minor child and that asset produces income of more than £100 per tax year, the income is taxed as if it belongs to the parent. Effectively, it counteracts the benefit that the planning is seeking to achieve.
The legislation catches indirect gifts and other arrangements, for example allowing grandparents to acquire shares in the parent’s business with the objective of a subsequent transfer of those shares for the benefit of the child, as explained in HMRC’s guidance.
What to do if you’re involved in this or a similar scheme?
You may be reading this as somebody who has undertaken this type, or a similar type, of planning and be unsure what to do next. Our tax team can offer you the advice needed, firstly to determine if the arrangement you have in place is likely to be considered a “dividend diversion scheme” and subsequently to advise you on the next steps and, if required, make the necessary contact with HMRC to limit the financial impact on you and your family.
Effective tax planning
Our expert tax team are able to provide you with suggestions for effective tax planning which takes account of necessary anti-avoidance legislation which exists in UK tax law, to help you achieve desirable outcomes for you and your family whilst ensuring that you are continuing to meet your tax obligations.
To summarise
Although there are many tax planning arrangements that are acceptable under the UK’s broad tax legislation, not all tax planning arrangements are successful and you should seek reputable advice when deciding if they are right for you.
It is important to note that the avoidance legislation referred to above only applies to arrangements which benefit minor children under the age of 18, with the benefit deriving directly or indirectly from the parent.
The next step
If you would like to consider tax planning or need assistance in considering an existing arrangement that you have in place, please get in touch with Joe Stuart on j.stuart@uhy-manchester.com, Sarah Whalley on s.whalley@uhy-manchester.com, or your usual UHY adviser.
