As you’ll know only too well if you look after your own tax affairs, it’s a struggle keeping up to date with changes in tax law. It can be even worse trying to keep abreast of things when HM Revenue & Customs (HMRC) suddenly decide to change their interpretation of existing law.
An example of this arose recently. On 4 April 2013, just a couple of days before the beginning of the 2013/14 tax year, HMRC announced a change in the treatment of national insurance contributions (NICs) as they affect certain individuals in partnership. This will have a significant adverse impact on many family firms and limited liability partnerships.
Two particular categories of NICs can apply to the self-employed, including partners. Class 2 NICs are levied at a fixed weekly amount; for 2013/14 this is £2.70p per week, which adds up to over £140 for the year.
Class 4 NICs are a much heavier imposition. They are self-assessed alongside income tax on self-employed income, and for 2013/14 they are due at 9% on earnings above £7,605 up to £42,475 and at 2% on earnings above that level. Thus on earnings of £42,475, Class 4 contributions would total nearly £3,150.
In the case of partnerships, some partners are “sleeping” partners or inactive limited partners. This means that they take no active part in running the partnership business. Until 4 April it was commonly understood that such partners were not liable to Class 2 and Class 4 NICs – on the basis that they were not working in the business.
Now HMRC have decided that this treatment was wrong. Instead, they assert that sleeping partners and inactive limited partners are, and always have been, liable to Class 2 and Class 4 NICs. They base their new interpretation on the fact that the Social Security Contributions and Benefits Act 1992, which governs Class 2 and Class 4 NICs, imposes no requirement that partners have to be active in the business.
Sleeping partners and inactive limited partners who haven’t been accounting for contributions must do so from 6 April 2013.
Sleeping partners and inactive limited partners who haven’t already done so should register to pay Class 2 NICs, using form SA401 from HMRC’s website, or claim exception or deferment if applicable, and should also self-assess their Class 4 NICs liabilities for 2013/14 and subsequent tax years.
Tax is often unfair, and HMRC’s change of heart on NICs illustrates this very well. Sleeping partners and inactive limited partners who haven’t paid NICs, but should have done so, are being excused liability for those earlier years; however, those who did pay NICs in good faith for earlier years are not allowed to claim a refund.
Practical Tip :
Following the change in HMRC’s interpretation, if you have losses from earlier years which haven’t yet been set against profits chargeable to Class 4 NICs, these can be brought forward and set against Class 4 NICs profits from the same trade.
Remember that you don't have to pay Class 2 NICs once you are over State Pension age, and you don’t have to pay Class 4 NICs for any tax year if you are over State Pension age at the start of the year.