Keeping it in the family

Family businesses have a unique tax planning opportunity – the ability to bring one’s spouse, civil partner or children into the business and share in the profits. Done properly, it can significantly reduce the overall tax bill.

Split the profits, split the tax

The fundamental strategy is simple; every individual has their own personal allowance (£12,570 for 2026/27) and their own basic-rate band. If your business profits are all taxed on you personally (at 40%, 45% or even the dreaded effective 60%) while family members have little income of their own, they may be wasting their allowances. Sharing the income with family members moves it from being taxed at higher to lower rates. Set at the right level, salaries can also count as a qualifying year for state pension purposes (see previous articles for the optimum levels).

Self-employed earners

For sole traders, the options are more limited, but still workable. You can pay family members a salary for work genuinely carried out (e.g., bookkeeping, administration, marketing, etc.) and claim a business expense. The work must be real, paid at a rate commensurate with the work carried out, and be wholly and exclusively for the trade. Alternatively, you could consider creating a partnership with the family members.

The arrangements should be documented in a written agreement, and you must keep evidence of the work done in case it is requested by HMRC. With salaries, you must have a proper PAYE scheme set up. Also, do not forget that auto-enrolment, national living wage requirements, and employment law considerations apply to family members as they do to any employee.

Company owners

The opportunities are broader for limited companies. As well as salaries, you could consider allocating shares to family members, allowing dividends to be paid utilising their dividend allowances and basic rate bands.

This structure was tested in the ‘Arctic Systems’ case (Jones v Garnett [2007] UKHL 35). HMRC challenged the arrangement, arguing that the dividends paid to the non-working spouse were taxable on the working spouse. The case went all the way to the House of Lords, which ruled in the taxpayer’s favour, meaning the structure worked. That decision still stands, and the approach is now well-established. It is important that the shares give full ownership and are not ‘wholly or substantially a right to income’, so take advice in advance.

The company can also make employer pension contributions to family members genuinely working in the business (again, subject to being reasonable). These can be highly tax-efficient,
giving a corporation tax deduction and no tax for the family member.

Risks and pitfalls

As noted above, any amounts must be set at a reasonable rate commensurate with the work being carried out. You need to get the set-up and documentation right and keep the evidence
in case you need to defend the structure created. One important point: the tax law includes anti- avoidance provisions (the ‘settlements’ legislation) which, if they apply, mean the income remains taxable on you. These rules are widely drafted and could catch several types of structure, for example:

• dividend paid to your minor children;
• income paid to a family member, where you can still benefit from the income;
• payments to a spouse which are ‘wholly or substantially a right to income’; or
• reciprocal arrangements with family members.

It is important to navigate these rules carefully. In particular, any amounts paid to family members must really belong to them and they must be free to spend the money themselves.

Practical tip

Set up correctly, this can be a genuine planning opportunity; however, get the detail right to avoid a surprise tax bill later on. Don’t forget, this is a full gift to your spouse or family members, so
you also need to be comfortable with the risks of future disagreements!

Disclaimer: The information provided on AccountingFirms.co.uk is for general informational purposes only and should not be considered professional accounting, tax, or legal advice. Always consult a qualified accountant or tax adviser for advice tailored to your individual circumstances.