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Family Relationship Stymies Scholarship Tax Exemption

university style officesIn a decision that underlines that tax disadvantages can sometimes go hand in hand with family relationships, the First-Tier Tribunal has ruled that a company director whose sons’ university education was funded by his employers was rightly subjected to income tax on the basis that he had received a benefit in kind.

During their attendance at university, payments were made to the two sons from which PAYE and NIC were deducted in the ordinary way. However, in a decision which also placed a substantial NIC liability upon the father’s employers, Her Majesty’s Revenue and Customs (HMRC) took the view that the payments to the sons should be viewed as benefits in kind in the father’s hands.

The father and his employers argued that the purpose of the payments was to ensure the successful future of the business and to lock the sons into working for the company after completing their education. Their father had not been instrumental in making the decision and the payments to the sons were made by reason of their own, not their father’s, employment by the company.

HMRC argued that the father had taken the opportunity to fund his sons’ education through the company in what he had expected to be a tax efficient manner. It was submitted that neither son was a bona fide employee of the company during their time at university.

Noting that both sons had worked for the company for several years after leaving university, the tribunal accepted that their employment contracts were valid during their university years and that the payments made to them constituted scholarship income within the meaning of section 776 of the Income Tax (Trading and other Income) Act 2005.

However, in dismissing the taxpayers’ appeal, the tribunal noted that the exemption provided by section 776 could have no application to the case by reason of section 212 of the Income Tax (Earnings and Pensions Act) 2003. The latter provision imposed a benefit in kind charge in circumstances where a person receiving a scholarship was a member of an employee’s family or household. HMRC was correct in its view that the payments to the sons had been made by reason of their father’s employment.