Like any other business structure in the UK, running a business as a self-employed individual in the UK also comes with numerous tax obligations. However, finding ways to trim down the taxes is something self-employed individuals always look for. his guide explains the key strategies on how to use family members to reduce your tax as a self-employed worker while staying compliant with HMRC regulations to ensure that you remain within legal boundaries.
Fortunately, there are legal ways to reduce your tax burden, including involving your family members in your business operations.
To clarify, one of the legal ways of tax planning for self-employed workers is to employ their family members to shift some of the profits from them to the family members. By doing so, you can pay a lower rate of tax on the profits you split with them.
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How to use your family members to reduce your tax?
Many self-employed individuals use family members to share income efficiently, assist with their business, and keep the income within the family, either occasionally or regularly. It can be done by utilising several options which are going to be discussed below.
However, while splitting income with family members can be a tax-saving strategy, HMRC maintains close scrutiny of payments made to family members. It implies that any excessive or unreasonable salaries might not be fully tax-deductible. Therefore, it is essential you learn the options on how to use family members to reduce your tax:
Employing family members in your business:
One of the most effective ways you can opt for when learning how to use family members to reduce your tax is by hiring family members to work in your business.
Nevertheless, it is worth stressing here that HMRC has strict rules to prevent abuse of this system, the violation of which might lead you to face its penalties. Thus, it is mandatory that you benefit from employing the family members while not overstepping the legal limits. To this end, you must follow the following steps to remain compliant:
Pay a reasonable salary to the family member:
By employing a family member, such as your spouse or partner, you become eligible to claim a reasonable salary for the tasks they carry out to ensure the smooth execution of your business operations.
For instance, they can carry out tasks like answering the phone, visiting the bank, bookkeeping, or administrative tasks. However, it must be highlighted here that their salary must be paid through the PAYE system like other employees, and it must be justifiable for the work they perform. Consequently, you cannot pay excessive wages just to reduce your tax bill.
Maintain proper records:
To remain compliant with HMRC regulations while employing family members, you must also ensure to keep proper records, such as employment contracts detailing the job designation and pay structure, payslips, timesheets or payroll records. Additionally, you must also pay family members by creating a business bank account.
Meet minimum wage requirements:
When employing a spouse, partner, or child (above 16 years), you are obligated to pay them at least the National Minimum Wage (unless they are part of an apprenticeship scheme).
Furthermore, it would be discreet to keep track of the number of hours they work and their level of responsibility. By doing so, you can justify their salary if the need arises in the future.
For greater clarity, justifying a £40,000 salary for an administrative employee who only works 5 hours a week would undeniably be an indefensible task for you. Therefore, pay what is well-founded.
Pay through PAYE:
Just like any other employee in your company, you will pay the wages to your family members under the PAYE system. It means you will deduct the income tax and NICs from their salary if their earnings exceed a certain figure.
For instance, if their earnings exceed the Lower Earnings Limit (LEL) for National Insurance (£123 per week for the 2024/25 tax year), you must register them under PAYE and deduct tax accordingly.
Similarly, their income tax deductions will also be made. lastly, deductions made under PAYE and NICs will be paid over to HMRC quarterly. In the end, by employing family members, you can reduce your tax bill because salaries are tax-deductible business expenses, reducing your taxable profits.
Splitting income with family members through a partnership:
In addition to employing your family as staff, there is another alternative to understanding how to use family members to reduce your tax. If your business is structured as a partnership, you can distribute income more efficiently among family members.
To elaborate, instead of taking all profits yourself and paying a higher tax rate, you can allocate shares of profits to your spouse or adult children who have lower tax liabilities. In addition, by splitting income through a family partnership, you can:
- Spread taxable income and keep each partner in a lower tax band.
- Help maximise personal allowances across multiple family members.
- Can reduce overall National Insurance contributions (NICs) compared to sole trader status.
However, you must take note that the partnership must be genuine, where each member is actively contributing to the growth of the business. Otherwise, HMRC may challenge partnerships where family members do not play an active role.
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Using dividends from a family-owned limited company:
If you operate through a limited company, saving taxes will be a worthwhile way for you to figure out how to use family members to reduce your taxes. You can employ your partner or spouse in your company and make them a shareholder by transferring or issuing shares to them.
As a result, you can distribute profits to them via dividends, which, to your content, are taxed at lower rates than salary income. Beyond that, with your family as shareholders in your company, you can viably structure their remuneration as a combination of salaries and dividends. Now, let’s grasp the nettle of how it works:
Luckily, your spouse or children, who are over 18, can own shares in the company, thereby becoming the shareholders;
There are different kinds of shares you can issue or transfer to the shareholders. If you are keen on learning them, our following guides can serve the purpose:
Limited company shares: Things you must know about.
What are the different types of shares in a limited company?
How to issue shares in a limited company?
Pay dividends instead of salary:
It is relevant to mention that by running a limited company, you cannot directly receive all the profits by carrying out trading or business activities. Instead, the profits your company produces will first be subject to corporation tax.
Next, after you have fulfilled all your tax liabilities for the given financial year, you can allocate the retained profits among the company’s shareholders in the form of a share dividend payment.
Dividends are payments that the limited company shareholders receive from the post-corporation tax profits. It is the portion of the company’s retained profits it distributes among the shareholders.
In addition, the dividend allowance for 2024/25 tax is £500, signifying that your family members can receive dividends up to this amount tax-free by being shareholders of the company. More importantly, dividend payments do not only attract lower tax rates than salaries, but they are also not subject to NIC payments.
Having read that, you might be interested in learning about the dividends in depth. To do this, you can read our following guide specifically targeting all the substantial aspects of the dividend payments:
A detailed guide to how dividends work in a limited company?
Lower tax rate:
As stated above, dividends attract lower tax rates than wages under the PAYE taxation. To substantiate the argument, dividend tax rates range from 0% up to 39.35% for the 2024/25 tax year. Also, your marginal rate of dividend tax is linked to your income tax band.
Moving on, you can determine the tax on dividends by calculating your income tax band at the following rates:
| Tax Bands | Tax rates on dividends (%) | Annual Income | Income tax rates (%) |
| Tax-free personal allowance | 0 | £12,570 | 0 |
| Basic Rate | 8.75 | £12,571 to £50,270 | 20 |
| Higher Rate | 33.75 | £50,271 to £125,140 | 40 |
| Additional Rate | 39.35 | over £125,140 | 45 |
As a result, the idea of setting up a limited company to address the question of how to use family members to reduce your tax becomes highly attractive if you are a higher-rate taxpayer and your spouse is in the basic-rate band or has an unused personal allowance.
It is because you can rather use their unused personal allowance and lower income tax band, claim their salaries as an allowable expense against business profits, become eligible for Employment Allowance to reduce your annual NIC liability by up to £5,000 and transfer a part of your company’s retained profits to them through dividend payments.
To stay updated with the dividends and income tax rates, visit the government website.
AccountingFirms makes it seamless to search for the best fit for your accounting and taxation needs by applying filters and getting the most customised result. Let’s hire the best accountant now!
Claiming child benefit and tax credits:
If your taxable income is close to or above £60,000 for 2024/25, you may be subject to the High Income Child Benefit Charge. On the contrary, if you shift a portion of your income to your spouse, you may reduce your taxable income below the threshold and keep full child benefit payments.
Hence, you can pay a salary to your spouse to bring your income below £60,000. Alternatively, you can allocate dividends to your spouse if you run a limited company. Apart from that, you can make pension contributions to reduce your adjusted net income.
Using pension contributions:
Another effective way to resolve the issue of how to use family members to reduce your tax liabilities while also securing future financial stability is through pension contributions. You can:
- Make contributions to your spouse’s pension up to £3,600 annually and attract tax relief even if they have no earnings. To clarify, when you pay into your spouse’s pension, you automatically get tax relief at 20% if your pension provider claims it for you.
- Set up a workplace pension. For instance, employing family members can make them eligible for workplace pension schemes, reducing your taxable profits.
- Use pension contributions to reduce high rate tax. For example, if you are a high-income self-employed worker, you can make pension contributions to lower your adjusted income below certain tax thresholds and bring down your tax bill.
You can learn more about types of pensions, their eligibility criteria, and how to report pension contributions as a self-employed worker by giving our following meticulous guides a thorough read:
How to set up a pension when self-employed in the UK?
How to report pension contributions on self-assessment tax returns?
Bottom line:
All in all, comprehending the ways how to use your family members to reduce your tax in your self-employed business can lead to significant tax savings.
Whether through salaries, income splitting, dividends, or pension contributions, these methods can enormously help you distribute income efficiently and strategically while remaining compliant with HMRC regulations.
However, becoming conversant with tax laws might not be to everyone’s liking since laws can be complex, and improper structuring can result in HMRC investigations. Worry not! You can consult an experienced accountant to fulfil your crucial tax obligations.
In this respect, you can choose Accountingfirms to get peace of mind in the context of tax savings. At Accountingfirms, certified and registered accountants can guide you through tax-efficient strategies aligned with your business.
They will ensure you remain compliant with HMRC rules while maximising your tax savings. Further down the line, from business registration to filing your self-assessment tax returns, submitting annual accounts, and claiming tax relief, the experts help self-employed individuals handle their tax obligations effectively and efficiently.
Disclaimer: The information provided on AccountingFirms.co.uk is for informational purposes only and should not be considered as financial advice. Always consult with a professional accountant to ensure compliance with UK laws and regulations.