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Directors Who Sacrifice Their Salaries Face Elephant Trap From The Taxman

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Directors who sacrifice their salaries face elephant trap from the taxman

Income tax must be paid – even on wages waived by bosses trying to keep firms afloatBy Anthony Harrington

DIRECTORS OF cash-strapped Scottish companies are being punished by the Inland Revenue for foregoing salaries to try and survive the recession, tax experts have told the Sunday Herald.

Although HM Revenue & Customs has done little to warn companies of this trap, dubbed "nonsensical" by Scottish business leaders, it has emerged that directors who have stopped paying themselves are finding they are still liable to pay tax on what they would have earned, and face being penalised.

Lorna Tutty, an associate in the corporate tax team at Maclay Murray & Spens, said: "We are seeing a number of instances where the owner-director of a business comes to the end of a month and, faced with low cash flow, decides to waive their salary. This immediately gets them into trouble with the Inland Revenue since under current tax legislation, you are taxed when you have an entitlement to a salary, not when you draw the salary."

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She said that company directors, especially in small businesses, often don't realise that the tax liability remains.

"It is a real hidden trap for the unwary," she said. "Ultimately you could be looking at penalties for not operating PAYE properly."

Although many would say that foregoing salaries is a great deal more praiseworthy than British Airways management's recent plea to its staff to work for nothing, there are additional implications.

Alasdair Sinclair, tax manager at the Edinburgh office of accountancy firm Campbell Dallas, said that directors often think that if the salary is credited to the directors' loan account, but is not drawn, then no tax accrues. However, that too is wrong and the Inland Revenue will once again demand PAYE and national insurance payments.

He added: "Owner-directors of companies with more than five employees could also run foul of the minimum wage legislation if they stop paying themselves."

Andy Willox, Scottish Policy Convenor with the Federation of Small Businesses, said: "If a company owner-director is pushing for their business to survive a rough patch by not taking a salary, it seems nonsensical that they would be pursued for National Insurance contributions or PAYE. When you're giving it all you've got, trying to save jobs and continue to provide a service to your customers, the last thing you need is someone chasing you for more."

A spokesperson for the Inland Revenue in Scotland said: "Employees become liable to income tax on earnings when they receive' the earnings. Employers are required to operate PAYE when payments' of earnings are made. The legislation says that assessibility and PAYE are due when earnings are either paid, or when entitlement crystallises, whichever event occurs first."

This means that if the employer failed to make a bank transfer on the appointed day, the employee would still become liable to tax because entitlement had arisen.

For directors wanting to get around this trap, he said they had to amend their contract of employment with the company. But for those waiving salary rights in this way, he said: "The intention must be prospective - you can't give up the right to receive something that you're already entitled to."

However, he added that many directors of very small companies don't have contracts of employment, and are not at risk of getting taxed.

"For directors in this category, any money they draw from the company during the year is treated as loans until their remuneration is approved usually by shareholders at the annual meeting, after the end of the accounting year. It follows that if directors in this position want to waive their salary' they can do it without any tax consequences.

"They just have to make sure that the amount of remuneration voted at the end of the year is reduced to take account of what they've given up in-year."

Nice one. So even directors who are being honourable and trying to keep their businesses afloat will get the shaft. Seems pretty undemocratic to me.

Revenue can order you to 'rat' on debtors

Revenue & Customs is to win new powers to compel organisations and individuals to inform on the whereabouts of suspected tax dodgers - or face a £300 fine.

Mobile phone companies, local authorities and utility providers will all be forced to hand over the addresses of those who have moved house while still owing tax.

The sweeping new powers, expected to be used mainly against sole traders, small businesses and those in partnerships, will come into force next month. 'This is all about the Revenue ordering people to rat on others,' said one tax adviser.

The new law could create some strange situations. Friends, neighbours and relations are exempt, but customers are not. Thus the position of someone who had used the services of a neighbouring painter, for example, is unclear.

Other exceptions cover charities that obtained address details in the course of providing services free of charge to the debtor and any individual who has not had a business relationship with the debtor.

Revenue & Customs stressed this power would be used 'proportionately, after other avenues have been considered and only in worthwhile cases'.

Dawn Register, of accountant BDO Stoy Hayward, said: 'It is not surprising that Revenue & Customs is struggling to collect debts in the current economic climate. The taxman is looking for new, proactive ways to collect money quickly and efficiently.'

Anyone ordered to provide the information can appeal should they think it would be 'unduly onerous' to comply.

A tattle tale system...how orginal. But £300 squids of you keep your mouth shut? That's just going to stir up a hornets nest of trouble.

Expect this to be the first of many new draconian state intrusions into your personal space.

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Directors who sacrifice their salaries face elephant trap from the taxman

"Alasdair Sinclair, tax manager at the Edinburgh office of accountancy firm Campbell Dallas, said that directors often think that if the salary is credited to the directors' loan account, but is not drawn, then no tax accrues. However, that too is wrong and the Inland Revenue will once again demand PAYE and national insurance payments."

This is the crucial phrase.

I suspect that most people who are forgoing salary in the current market are categorically not moving the money to their loan account, they are simply not accruing it at all. I certainly am not.

And frankly, any director who doesn't understand the rule that (s)he needs to pay tax on salary money that they do move to their loan account, does not understand the very basics of running a business and deserves not to continue doing so.

tim

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My thoughts exactly, but then I'm ex Revenue, so I wondered if I might see things differently.

If it's not taxable when it's added to the dir's loan account, when would it be? What workable amendment to the legislation would they propose?

And if you're never going to take the money, why add it to the dir's loan account? Why not be honest with yourself and take when / if you can?

Or if you know you never will be able to take money from the company... why run one?

Hope all goes well; don't envy anyone running a business at the moment. :(

Edited by mikeymadman

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