The biggest hurdle reported to us in respect of many shareholder-directors is whether or not any salary was paid to them on or before March 19.
The Treasury Direction published on April 15, which outlines the rules for CJRS, requires an individual to have been on the employer’s payroll on or before March 19 before they can be eligible for furlough. This means that a payment of earnings in relation to 2019-20 must have been notified to HMRC via RTI at some point on or before that date.
In practice, many shareholder-directors pay their salaries on an annual basis to keep payroll costs down. If their annual salary had not been processed by March 19 then they will not meet this condition and, as HMRC have confirmed in their guidance, they will be unable to claim under the scheme. For many directors, this is an unsurmountable hurdle.
Partial support
Assuming there is evidence of salary on or before March 19, the next issue is the level of support available under the scheme. The shareholder-director of a small company will often take income as a combination of salary and dividends. Typically, the salary is modest and set at such a level that its payment will result in a qualifying year for state pension purposes but no actual National Insurance costs. The balance of income required is paid out as dividends.
From the perspective of the director, their total ‘earnings’ from the company is the sum of these two parts. From the perspective of CJRS, only the salary element of the director’s income can be considered when calculating a furlough payment. For a director who has been taking an annual salary equal to the primary threshold for NIC of £8,632 for 2019/20, this results in a potential maximum grant under the CJRS totalling £2,301 over the (current) four-month life of the scheme.
The lack of support for the dividend element of the income has been controversial, with some suggesting that provision could also be made for this portion of the shareholder-director’s income. Others have pointed out that since shareholder-directors can sometimes manage their tax affairs more efficiently than a regular employee, they should not receive the same level of support now from the CJRS.
From HMRC’s perspective, it would be challenging to identify dividends received from the director’s company as distinct from other investments and mean that each claim would have to be checked and audited manually – something which would be very labour intensive and would have slowed the process down significantly.
What can a furloughed director do?
Even if the director has an RTI payment and is in a position to furlough themselves, they must consider what they can actually do while on furlough.
A furloughed employee must not provide services to, or carry out any income-generating work for, their employer. Only non-income generating activities such as training or union work is permitted. Similarly, a furloughed director should not do any work which generates a commercial revenue or provides services to their company.
This condition may be awkward for some directors who were intending to continue some work during the coming months in order to keep their business going, albeit in a significantly reduced form. A furloughed director who had been planning to use their furlough time to keep the business ‘ticking over’ or look for new work, issue or agree quotes, or advertise business services should exercise extreme caution. HMRC guidance clearly states that directors “should not do work of a kind they would carry out in normal circumstances to generate commercial revenue or provides services to or on behalf of their company.”
But nor can the sole director of a company furlough themselves and down tools completely. All companies have ongoing statutory obligations with which they must comply. Fortunately, directors will be allowed to carry out the statutory obligations they owe to their company while still furloughed although we have only limited guidance at present as to exactly what that might comprise. The guidance at May 1 states that directors should “do no more than would reasonably be judged necessary for that purpose”.
The Companies Act 2006 helpfully sets out a number of directors’ duties, including (but not limited to):
- A duty to promote the success of the company
- A duty to exercise independent judgment
- A duty to exercise reasonable care, skill and diligence
Of these, the duty to promote the success of the company is likely to be the most relevant here. The Companies Act expands on this duty, setting out that the director must ‘promote the success of the company’ and have regard to matters including:
- The likely consequences of any decision in the long term.
- The interests of the company’s employees.
- The need to foster the company’s business relationships with suppliers, customers and others.
- The desirability of the company maintaining a reputation for high standards of business conduct.
Until HMRC issues more detailed guidance on what they consider furloughed directors are permitted to do, and based on the above, it would appear reasonable to presume that a furloughed director should still ensure that company accounts are filed on time, tax matters are dealt with in a timely manner, payroll run, and that employees, suppliers and customers are informed about the company’s current plans and state of operations. There could, however, be a thin line between the permissible and the forbidden. The massive cost to the Exchequer of CJRS means that claims will have to be scrutinised by HMRC at a later date. Keeping a diary note of what duties were undertaken during furlough could be prudent.
The process of furlough
Where the shareholder-director takes the decision to furlough themselves under the scheme, there are some necessary formalities. In addition to confirming the decision in writing to the director (who may need to write to themselves), any decision to furlough should be formally adopted as a decision of the company and noted in the company records.
Finally, guidance in this area is changing regularly (the above is based on HMRC guidance published on May 1, 2020) and any employer using CJRS should check to ensure they are using the latest guidance.
Helen Thornley is a technical officer at the ATT