By Mr Angelo Chirulli
Master’s Degree (Economics), ACA, ADIT, BFP, IFA, CPA (ITA)
Dottore Commercialista
Mail: angelo@vectigalistax.co.uk
The Employment Allowance (EA) is a relief that permits eligible employers to reduce their annual secondary National Insurance contributions (NICs). For 2025/26 the allowance is worth up to £10,500 and is offset against an employer’s Class 1 NIC liability each time the payroll is run until the allowance is used up. Only employers with total Class 1 NIC liabilities below £100,000 in the previous tax year can claim, and sole‑director companies with no employees are excluded. Although EA appears simple, the rules become technically complex where several companies are connected to each other. This article explains how the connected companies restriction operates, what “connected” means in tax law and the other tax consequences that arise when companies fall under common control.
Employment Allowance restriction for connected companies
Only one claim per connected group
If, at the start of a tax year, two or more companies are connected, only one of those companies may claim the Employment Allowance for that tax year. The rules are inflexible: the position on 6 April determines eligibility for the entire tax year; any change in ownership or control after that date is ignored[1]. Importantly, the companies cannot split the allowance between them[1]—the full entitlement must be claimed by a single entity. Failure to coordinate could result in the allowance being wasted or HMRC denying the claim.
Example. Suppose two subsidiaries, A Ltd and B Ltd, are connected on 6 April 2025. In 2025/26 A Ltd expects a Class 1 NIC liability of £20,000 and B Ltd £8,700. Because they were connected at the start of the year, only one company can claim the £10,500allowance for 2025/26, and the sensible choice is A Ltd because otherwise part of the allowance would be unused.
Choosing the claimant and dealing with multiple PAYE schemes
Where connected companies operate more than one PAYE scheme, EA can only be claimed against one scheme. If the company does not use the full allowance against that scheme, any unused balance cannotbe applied to a second PAYE scheme for incorporated businesses. For unincorporated businesses, however, any unused amount may be set against another scheme after the year end.
It is therefore essential for groups with several payrolls to determine which company and which scheme should claim the EA in order to maximise the relief. Employers must also re‑submit claims each tax year; there is no automatic roll‑forward.
Newly incorporated subsidiaries
A newly formed company can generally claim the Employment Allowance in its first tax year, even if it is a subsidiary of a larger group. Because the connected persons rule applies by reference to connected companies at the start of the tax year, a company incorporated after 6 April has no connected companies for the remainder of that year and may claim the allowance. In the following tax year the usual connected‑company restriction will apply.
Defining a “connected company”
Basic control test
Two companies are connected for EA purposes where one controls the other or both are under the control of the same person or persons. Control for these purposes is defined in CTA 2010, sections 450–451 and focuses on share and voting power rather than operational management. A person (or group of persons) controls a company if he or she is entitled to acquire:
· more than 50 % of the share capitalor voting rights;
· enough of the issued share capital to receive the greater part of the company’s income when distributed;
· rights to the greater part of the company’s assets on a winding‑up.
Rights held as a loan creditor are ignored in determining control. Control by directors or managers without share ownership is irrelevant. If two or more persons together meet the control criteria, they are treated as controlling the company collectively.
Attribution of rights and associates
Because ownership can be fragmented through family members or trusts, tax law attributes certain rights held by associates back to the principal person. Under section 448 CTA 2010 an associate includes a spouse or civil partner, parents, children and siblings, partners and certain trustees. In determining whether a person controls a company, the rights of their associates may be aggregated. HMRC guidance notes that when assessing whether companies are connected, it may be necessary to bring in interests held by associates if the companies are substantially commercially interdependent.
Substantial commercial interdependence
Where two companies are connected only because of rights held by associates, the connected‑persons rule will apply only if the companies are substantially commercially interdependent. HMRC uses three indicators:
1. Financial interdependence– one company provides financial support (directly or indirectly) to the other, or each has a financial interest in the same business.
2. Economic interdependence– the companies aim to achieve the same economic objective, the activities of one benefit the other, or they share common customers.
3. Organisational interdependence– the companies have common management, employees, premises or equipment.
If two companies are not financially, economically or organisationally interdependent, the rights of associates are ignored. HMRC’s company taxation manual gives examples: two businesses owned by family members that have no financial links, share no facilities and operate independently are notassociated. Conversely, if family‑owned companies share premises and staff and support each other financially, they are treated as associated despite separate ownership.
Special tests and fixed‑rate preference shares
Special rules apply where there are fixed‑rate preference shares, loan creditors or rights held in trust. HMRC guidance states that some fixed‑rate preference shares held by a financial institution are disregarded when determining control provided the investor is not a close company, takes no part in the management and subscribed for the shares in the ordinary course of a finance business. However, certain preference shares still confer control if they carry conversion rights or dividend rights beyond a reasonable commercial return. The minimum controlling combination principle is also relevant: control may be exercised by any combination of persons who together have more than half the rights.
Other tax consequences for connected companies
Corporation tax rates and marginal relief
The concept of a connected or associatedcompany is not limited to the Employment Allowance. It plays a crucial role in determining corporation tax liabilities. Since 1 April 2023the UK has a main corporation tax rate of 25 % for profits above £250,000. Companies with profits up to £50,000 pay tax at 19 %, and companies with profits between £50,000 and £250,000 pay 25 % reduced by marginal relief. These thresholds are divided by the number of associated companies. For example, a group with four connected companies would divide the £50,000 lower limit into five and the £250,000 upper limit into five when calculating each company’s thresholds. Failing to identify all associated companies can result in claiming marginal relief improperly, as highlighted by HMRC correspondence to companies that have mis‑stated their associated company count.
R&D tax relief and transactions with connected persons
For research and development (R&D) tax relief, the definition of a connected person from CTA 2010 section 1122 is used to identify transactions that must be scrutinised. HMRC’s Corporate Intangibles Research and Development manual notes that a company is connected with another if the same person controls both companies, or if groups of persons controlling each company consist of the same people or could be regarded as such. It also highlights that connected persons include relatives and partners. When a company incurs R&D expenditure on activities provided by connected parties—such as subcontracting or payments to externally provided workers—special limits apply and transfer pricing considerations may arise. Businesses undertaking intragroup R&D should therefore review their connected‑company relationships to ensure compliance.
VAT grouping and group relief
VAT legislation allows bodies corporate, partnerships and certain individuals to register as a VAT group if they are under common control. Although this article focuses on the Employment Allowance, it is important to recognise that once companies are grouped for VAT purposes, the group is treated as a single taxable person—supplies between members are disregarded for VAT and a single VAT return is submitted. Joining or leaving a VAT group often requires the controlling body to meet specific control conditions and can affect the ability to register divisions separately. Groups should evaluate whether VAT grouping would simplify or complicate compliance in light of connected‑company rules.
Other allowances and reliefs
The associated‑company concept also appears in other reliefs. For example, group relief allows the transfer of corporation tax losses between group companies, but companies must be under 75 % common ownership. Inheritance of losses for capital allowances and restrictions on the annual investment allowance may also depend on whether businesses are connected. In the NIC context, where two connected companies operate separate PAYE schemes, any unused part of the Employment Allowance cannot be transferred between schemes. The rules on connected companies can also influence eligibility for small companies’ rate of tax, R&D expenditure credits, and the application of anti‑avoidance provisions such as transfer pricing and distribution rules.
Practical considerations for employers
- Identify control and ownership structures early. Companies should review shareholdings, voting rights and rights to income or assets to establish who controls each entity. Remember to include rights held by associates and look for situations where a minimum controlling combination may apply.
- Assess commercial interdependence. If two companies are only connected through associates, examine whether they share financing, customers, objectives or management. Documenting the absence of financial, economic or organisational links may prevent HMRC from treating companies as connected for EA purposes.
- Plan the EA claim strategically. Decide which company will claim the Employment Allowance and against which PAYE scheme. Ensure the chosen company has sufficient Class 1 NIC liability to use the entire allowance and that claims are renewed annually.
- Consider other tax impacts. Being connected affects corporation tax rates, marginal relief thresholds, R&D claims and VAT grouping. Integrated tax planning should address all of these interactions. For example, adjusting ownership to reduce the number of associated companies may increase EA flexibility but could reduce group relief or VAT group benefits.
The Employment Allowance provides valuable relief for smaller employers, but the rules become significantly more complex when companies are connected. Determining which company controls another, how associates’ rights are attributed and whether businesses are commercially interdependent requires a detailed analysis of shareholdings, voting rights and family relationships. Ignoring these rules can lead to lost allowances or unintended tax consequences. Equally, the concept of connected companies reverberates throughout the UK tax code, influencing corporation tax rates, marginal relief, R&D tax relief and VAT grouping. A comprehensive understanding of these interactions will enable companies to maximise reliefs and ensure compliance while navigating the interconnected landscape of UK tax legislation.
Is your business part of a group? The connected‑company rules can dramatically affect your employment allowance, corporation tax rates and other reliefs. Our specialists can help you analyse ownership structures, assess commercial interdependence and maximise available reliefs.
Contact Vectigalis Tax today for tailored advice and practical support on navigating these complex rules.