Tuesday, 5 April 2011

David Miliband's tax non-avoidance

From the desk of Scott Wright:

Over at (unsurprisingly) The Telegraph & The Daily Mail, there has been a recent story relating to how David Milliband has set up a Limited Company in order to channel his various external income sources and pay less tax.

Whilst they are correct in that it will reduce his tax bill, the extent to which it will do so is being grossly over exaggerated in a feat of economic illiteracy normally only seen in the pages of The Guardian.

Now assuming Mr. Miliband is the sole shareholder and there is no channelling of income to somebody else to utilise a basic rate tax band, my calculations will be ignoring the fact that a company and an individual are separate entities and focus on the total taxes payable in order to get the net income into his pocket after HMRC have had all their relevant chunks.

A small company pays corporation tax at 20%. I'm assuming Miliband will fall into this bracket because lets face it if you could rake in £300k+ in profits per annum all on your own why would you even bother sitting as an MP, the over-generous expenses aren't THAT generous.

So let's say for example he makes £37,500 profit in a year in his limited company and he wants to take as much as he possibly can out legitimately. The company pays tax at 20% giving us £7,500 and leaving £30,000 to be distributed as dividends.

Now Mr. Miliband is a higher rate taxpayer because an MP's salary is about £65,000 a year. This means that if he takes out the full £30,000 as dividend he will have an actual taxable income of £33,333 with a £3,333 tax credit (like tax deducted at source) the net effect of this is that you actually pay a further 22.5% rather than the reported 32.5%, the tax payable on his dividend of £33,333 would therefore also be £7,500. Total taxes paid of £15,000 on £37,500 worth of profits = 40%.

As a higher rate taxpayer, all you actually save is the 2% National Insurance, which is largely offset by all the audit and accountancy fees anyway.

13 comments:

Mark Wadsworth said...

SW, yup, at best it's a tax a deferral, not a tax reduction.

Scott Wright said...

Well what led me to decide on making this post was that i've been doing "marginal rate" calculations similar to this on the basis of the new 26% large company rate coupled with higher rate taxes on dividends. When this is the case we're actually looking at total taxes of 44.5% (prior to 1st April 2011 when we had 28% this was 46%)

The main beneficiaries of limited company & dividend tax rules are basic rate paying shareholders and those in the higher rate band who's only source of income is their limited company and have income up to around £120k per annum or so (at a guess.) Above this I think you start to lose out and would be better with an LLP.

Mark Wadsworth said...

SW, if it's your main source of income, then sole trader, partnership or LLP is nearly always the best way. You pay 31% up to Upper Earnings limit, 42% over that, the best deductions for travel expenses, easy to turn employees into partners (thus saving Er's NI and reducing effective rate from 40%to 31%) than to give them shares and no back chat.

People always overlook that there is no tax on reinvested profits, so if you're expanding the business, the tax rate is irrelevant.

Anonymous said...

And would it not be possible for the HMRC to decide in any case that this is a personal service company giving it no tax advantages at all?

Mark Wadsworth said...

Anon, you're thinking of IR35. If David M tried putting his MP's salary through the company (which is employment income, that's the law) then he'd get clobbered. If he's doing freelance stuff like writing articles, giving lectures* etc than that's OK.

* Presumably on the general theme of "Why it should be legal to drown your younger brother" or similar.

dearieme said...

But if he's not tax-dodging, what is he up to? Why bother?

Mark Wadsworth said...

D, because he's thick - some accountant tells him that he can pay 20% tax through a company which is clearly less than 40% income tax (but it comes to the same things once it's paid out again), DM falls for it and the accountant then rakes in the audit and accountancy fees every year.

Scott Wright said...

dearieme: "But if he's not tax-dodging, what is he up to? Why bother?"

I would say the only reason it's a viable strategy for Milliband is in order to defer the income in his own hands until such time as the personal allowance is no longer withdrawn on a £1:£2 basis for people earning over £100,000, all its takes is £35k to push him above this, if he was pulling in more as a sole trader he would lose allowances. If he leaves it in a company and stages his dividends properly, he avoids this. Political pressure from "the rich" will eventually reverse the dumb rule as tax receipts do not pick up as well as expected over the coming years.

Iain said...

Mark

Really glad you put up this post. I read about this in the Evening Standard and I cannot understand why anyone would want to put his income into a limited company. Unless he wants to keep it there for and draw it when he is on a lower tax rate or if he needs the protection of limited liability, which I find hard to imagine when the income comes from public speaking.

Bayard said...

SW & I, perhaps his income fluctuates from year to year and he uses the Ltd Co as a buffer to keep his personal income constant or below some magic figure.

Mark Wadsworth said...

Iain, it was Scott's post (although I'd have said much the same).

B, yup, it's good to keep below £100,000 or £150,000, but if that is what he is doing and why, then fair play to him. I'm against the 50p tax rate, even for people like him.

What the article doesn't say is whether it's a UK limited company, in which case at least the public can get a glimpse of what he's up to (unlike that weasel Tony Blair).

ADB said...

Is it a privacy thing? In the US tax returns are a public record, but not sure if is the same here.

Mark Wadsworth said...

ADB, nope. In the UK tax returns are tip-top secret - but if you have a UK registered limited company then the company has to disclose certain minimum details about income and so on.

Also, as a Member of Parliament, David M would have to disclose a lot of this income in the 'register of members' interests' anyway, whether it goes through a company or not.