Iain Rankin looks at ways for company owners to pay education fees via the business to maximise tax efficiency.
Although sole trader (or partnership) businesses would be using after-tax income to cover their own tuition fees, there are strategies which can mutually benefit the owner(s) and any employees whose fees they choose to subsidise.
Moreover, for an owner-managed business operating as a limited company, there are situations where covering education fees for staff (including directors or employed family members) can offer significant tax savings.
With modern technology fast reshaping the business world, business owners must further ensure that key employees are remunerated tax efficiently.
What’s the cost?
Education is one of the most expensive (albeit valuable) purchases we are likely to make in our lives. A child’s primary school fees can range anywhere from £12,000 for a day-school to well above £20,000 for boarding schools. And secondary boarding schools will often exceed £35,000 per annum; more than the average UK salary.
Considering that these fees are often paid from after-tax income, it’s not hard to see how the true cost of a privately-funded education can exceed hundreds of thousands of pounds before a child has even begun to apply for university, let alone pay for it.
Although free in Scotland, English universities can charge up to £9,250 per annum for tuition fees. Unless the student happens to live near the university, they might expect to pay around £15,000 per year on basic food, accommodation and/or travel costs. Again, usually this expense will be absorbed by the students’ parents, from after-tax income.
Example 1: University fees paid by father
Andy, the child of Dr Brown, wishes to go to university to study engineering. Dr Brown currently earns £80,000 per year, well above the higher-rate tax threshold.
Andy currently works with an engineering firm but doesn’t earn enough to cover the tuition fees. Dr Brown is, however, happy to pay.
We will assume that Andy’s annual tuition fees come to the maximum amount of £9,250.
To have this cash available, Dr Brown would need to have earned £15,416 in income, and paid £6,379 in income tax (£15,948 x 40%), as well as £319 in NICs (£15,948 x 2%).
As we have seen, the true cost of higher education to a higher-rate taxpayer is significant. If a business owner in this position were able to fund education fees via a third party, the savings could be remarkable. But how could this be achieved? Could Andy’s employer pay his university fees?
Actually, yes. There are a few ways in which a company/employer can support its staff with university fees.
Benefit-in-kind
If the prospective student is an employee of the company, it is possible for the employer to pay the fees on their behalf as part of their remuneration package. This is commonly referred to as a ‘benefit-in-kind’ (BIK), whereby the employer provides some benefit to the employee, and the equivalent cash value of the benefit is treated as if it were actually the employee’s taxable income.
In this scenario, the employer would pay the education fees, receiving a corporation tax deduction, while the employee pays tax and National Insurance contributions (NICs) on the same amount.
Example 2: University fees paid by company
Sasha, the Director of Standard Ltd, takes a salary of £30,000, paying income tax of £3,498 and NICs of £2,460.
If Sasha pays tuition fees of £9,250 personally, £2,312 of income tax and £1,261 in NICs has already been paid. The ‘real’ cost totals £12,823.
If Standard Ltd pays Sasha’s £9,250 tuition fees, it receives corporation tax relief of £1,757 (i.e. at 19%). It also pays employers’ NICs of £1,276 at 13.8% but can claim corporation tax relief of £242 on this amount.
While Sasha’s BIK increases their taxable income to £39,250, this is still below the higher-rate threshold. Therefore, Sasha pays an extra £1,850 (20%) income tax via PAYE, and £1,110 (12%) NICs.
Whereas the initial cost to Sasha was £12,823, when Standard Ltd covers the bill (£9,250 + £1,276 NICs) and claims corporation tax relief (£1,850 + £242), the total cost to the company amounts to £8,434.
Adding Sasha’s tax and NICs liability, the total cost between Sasha and Standard Ltd comes to £11,394.
Even if the employee is paying higher-rate tax, this option would still be a significant advantage for them, reducing the total cost of education by nearly half. However, care must be taken to ensure that provision of the BIK does not accidentally push the employee’s total taxable income above the higher-rate band.
Note: the employee and employer should make arrangements in case the employee decides to leave the business, or if they do not achieve the expected grades. This is outside the scope of this article.
Family businesses: Owning shares
For family-run businesses, if a child intends to go to university, it may be possible for them to purchase shares in the company. Provided the company has consistent profits or ample retained earnings, they could withdraw dividend payments to go towards their university fees.
Alas, there are some anti-avoidance rules. ITTOIA 2005, s 629 indicates that if a parent simply gives money to their child to purchase shares in their company, the parent still assumes the tax liability on dividends (unless the income does not exceed £100). However, it is possible for grandparents or others to gift the money to purchase shares.
In addition, a legitimate gift of a small number of shares annually to the child (within the annual exempt amount for capital gains tax purposes) could potentially allow tax and NICs-free dividends of up to £14,500 (i.e. annual allowance and dividend allowance combined) to be paid. If the main company shareholders are already in the higher-rate tax bracket, this avoids the need to incur 32.5% dividend tax on any withdrawals required to cover the tuition fees.
Employing the family member
Once a child has completed their A-levels, they could be employed full-time by the family business. Following a period of legitimate employment, they may then attend a full-time university or college. Scholarships, exhibitions and bursaries held by a person receiving full-time instruction at university are exempted from income tax, and the business could pay them up to £15,480 per annum free of any tax and NICs liability. This can be for expenses including lodging, subsistence and travelling allowances, but excludes any tuition fees payable by the employee to the educational institution.
Note: The education must be full time; see ITTOIA 2005, s 776 for specific definitions. More information on the rules relating to the tax-free employer payments can be found in HMRC’s Statement of Practice 4/86.
Loans
(a) Employee loans
An employer may offer a loan to their employees to the value of their tuition fees. A loan agreement must be drawn up, with interest and repayment details. The employee can receive loans up to £10,000 before tax charges apply. So the only cost to the employee would be on any interest arising from the loan.
The loan itself can later be paid off by the employee or, if the employer no longer requires an employee loan to be repaid, a PAYE tax and Class 1 NICs liability arises on the amount released or written off at the time this occurs. This is particularly useful if a business seeks to retain valued staff, or if the employee is a family member.
(b) Director’s loan
If a company director has previously injected personal funds into the business, they will have a credit balance with the company, which can be withdrawn tax-free.
The parent could use some of those funds to pay education fees, or charge the company a commercial rate of interest on the loan account balance to help in doing so (although the interest will be taxable in the director’s hands).
Conclusion
There are several ways in which a business can cover the costs of education for its employees. Any investment in (or loan paid to) an employee must be given proper consideration to ensure the decision is right for both parties.
Practical tip
Incorrect tax treatment of tuition fee payments between employees and employers can be extremely problematic. Know where you stand before proceeding; consult a professional if you are unsure.
