The notorious income tax Settlement provisions claimed another scalp recently. In P Donavan and Mr P McLaren v HMRC [2014] TC03188 dividend waivers in favour of spouses conferred only a right to income and so the inter spousal gift exemption did not apply.
Under the Settlement provisions in Part 5 ITTOIA 2005 a settlor is taxable on any income arising from an arrangement where he gives away property yet he or his wife retain a beneficial interest in the property or income arising from it. There is an exemption from these provisions where an asset is given by one spouse to another provided that the gift is outright and is not merely a right to income.
In P Donavan the taxpayers gave their wives ordinary shares in their company in order to split dividend income between the couples. The gift of ordinary shares is not merely a right to income, because ordinary shares also carry voting rights and rights to participate on winding up and so the spouse to spouse exemption applies (this follows the ruling by the House of Lords in Jones v Garnett [2007] UKHL 35).
The husbands then executed dividend waivers in respect of their shareholdings to allow higher dividends to be voted for their wives. This was probably to ensure that the couples made the best use of their personal allowances. As a result the bulk of the retained profits of their company were paid out to the wives. This is where the planning failed; a dividend waiver is basically a right to income as there is no capital value in a waiver, unlike an ordinary share. As a result no exemption for the gift of a waiver and for income tax purposes the income waived remained to be included as the income of each husband.
Comment
Few surprises in the outcome of this case given the amount of case law on this topic. We report it because some people are still getting caught out by these provisions. We summarise the rules and provide a commentary on case law in our guide Settlement provisions.
Our planning guide for directors and family businesses, Shifting your income to save tax is also worth a mention, and if the taxpayers in this case had read our Directors' Tax Planning toolkit they might have heeded our warning on the use of waivers!
