Is hiring your spouse a way to split income?
Newly minted Finance Minister Joe Oliver didn’t provide any specific details to the Canadian Club in his inaugural speech this week as to whether his government would be following through on its 2011 election promise to introduce broad-based income splitting for couples with children, hinting only that the government’s priority “will be to provide tax relief for hardworking Canadian families” once the budget is balanced.
In the meantime, perhaps one of the most tempting ways to try to income split is by hiring your lower income spouse or partner and paying them a wage. But if you don’t follow the rules, you may find your spouse’s salary expense denied as a valid tax deduction.
Take the recent case of a British Columbia automobile dealership sales manager who in 2008 and 2009 reported gross commissions of over $135,000 and $115,000 respectively and deducted employment expenses of $39,000 and $40,000 respectively. Nearly half of these employment expenses were for wages he paid to his spouse.
Both the manager and his wife testified at trial. He stated that his wife worked from home and put in between 4 and 4.5 hours daily, five days per week at an hourly wage of $18. She was “paid by cash or set off.”
He explained to the judge that since he and his wife had only one bank account and it was a joint account, there was no “sense of paying her by cheque which she would deposit in their joint account. Instead, any amounts which (she) withdrew from the bank account or purchased with the debit card or…credit card were set off against the wages she earned.”
His wife testified that it was her job to telephone people who had recently immigrated to Canada to see if they were looking for a vehicle. She also checked Craigslist and would refer potential purchasers to the dealership where her husband worked. She estimated that some days she made 4 to 6 telephone calls while other days she made no calls. She also sent birthday cards to her husband’s customers.
The judge found “this testimony to be self serving and unbelievable,” especially since it contradicted earlier evidence about what her duties were. Furthermore, the judge found the lack of any documentary evidence to support actual payments from the sales manager to his wife problematic stating that “he randomly chose amounts from his bank statements and stated these amounts were (his wife’s) wages.”
One discrepancy cited by the judge was the fact that in some months, the manager included his daughter’s gym membership as part of his wife’s wages while in other months, the gym membership cost was excluded.
Not surprisingly, the judge denied the deductions, finding the evidence of a true employment relationship “implausible.” In addition, the judge had this warning for others who may try a similar move: “Where there is an alleged working relationship between non-arm’s length parties, there should have been some documentation or independent evidence to support that working relationship. In this case, neither was given.”