Use an Income Shifting Plan to Enhance Your Tax Efficiency

So, in order to avoid a high tax rate on dividends paid by your organization, you’re thinking about moving a portion of your shares to your partner. You will put it into practice by transferring the shares as a gift, however, would you be missing out on extra tax advantage if you were to alternatively sell them?

Sharing company profits

This is a common way of becoming more tax efficient. In this blog post, we will take you through a way of achieving further tax breaks to give a boost to your income.

Normal tax planning

Typically, you’d be advised to transfer shares by gifting them. This practice has the perk of not qualifying for capital gains tax which would be applied if you transfer your shares to an individual other than your spouse or civil partner. This is a common tactic that most people put into practice however, you’d end up losing further tax breaks.Tip. If the house that you have purchased with your partner is under mortgage then ideally you should sell your shares, pricing them at their current market value.

Why sell?

This tip takes advantage of the rules which make tax breaks applicable on qualifying loans by subbing part of your house’s mortgage, which does not meet the standards for a loan, to hold shares in a trading company, which is a qualifying one. The outcome is that part of the interest paid on the loan used to purchase or develop your home becomes tax-deductible.

Conditions

For this scheme to be applicable, there are a number of conditions that should be met. The most crucial ones are enlisted below:

• The individual's organization must be a trading company, i.e. its sole business shouldn’t primarily revolve around holding investments
• The individual should sell a minimum of 5% of the company’s total ordinary shares
• the shares shouldn’t be priced at a value which exceeds the market price, i.e. the amount the individual would get if he were to sell shares to a person who didn’t have any connection to the organization.

4 steps to minimize tax

1. Evaluate the shares you’re giving to your partner. This helps you determine the maximum amount that they should buy the shares for.
2. Stretch your mortgage or apply for a bridging loan for the value equaling the amount of the shares.
3. Have your partner utilize the loan to purchase shares from you. Your bank balance is now increased and the shares are under the ownership of your partner.
4. Repay a portion of your original mortgage from the money which was received in exchange for the shares. You have now substituted part of the non-qualifying loan to buy your home with a qualifying loan to purchase shares in your company.

Putting up shares for sale instead of gifting them means your partner can borrow to buy them by, say, extending your mortgage. The interest paid on the extra borrowing is tax-deductible. You can utilize the amount your partner provides you with to reduce the original mortgage. The value of your joint borrowing stays similar but part of the interest now gets tax relief.