The benefit of being a limited company director is that you have greater flexibility in how you pay yourself. But what is the most tax-efficient way to draw income on your limited company this financial year? Below we have summed up the ideal salary level and explained a bit more about how dividends are taxed.
What is the optimum salary level for directors for 2019/20?
Most limited company directors draw income from dividends and a small salary. This is already a benefit in terms of tax because dividends are not subject to National Insurance so NIC is only paid on the salaried portion of the income. Even though NIC is charged against a salaried income, it is still important to draw a salary as a limited company director as it is deductible against Corporation Tax.
Of course, the tax benefits fall as you pass through the prevailing income tax and NIC thresholds. So here are some considerations when working out the best salary level for you:
You can either take a salary of £8,632…
You won’t pay any income tax at all if your salary level doesn’t cross this threshold and you are entitled to the full personal allowance. For 2019/20, the personal allowance is £12,500.
However, you only start paying Employees’ and Employers’ NIC when your annual salary reaches £8,632.
So, if your company is not claiming the Employment Allowance (see below), £8,632 is the most tax-efficient salary to draw this year.
Remember to include any other income you have already received in the current tax year in your calculations (for example, if you received a salary from a previous job or have rental income).
There is no legal requirement to pay yourself the National Minimum Wage, unless you have a contract of employment with your own company which states otherwise (this is very unusual). This salary level is above the Lower Earnings Limit for NI required in order to qualify for state benefits (£118 per week for 2019/20).
Or claim Employment Allowance by taking a £12,500 salary
If you’re not the sole director / employee of your company earning over the Secondary Threshold, and aren’t subject to IR35, it may be more tax-efficient to pay yourself a higher salary of £12,500, and claim the Employment Allowance (EA).
The EA refunds any Employers’ NICs your company pays, up to a maximum of £3,000. (Although, it’s important to check with your accountant to see if your company is eligible as some contractor companies aren’t.)
You will still have to pay Employees’ NICs on any salary over £8,632. So, if you pay yourself £12,500 during the current tax year, you will pay no income tax at all, the salary is deductible against your company’s Corporation Tax bill, and you’ll pay £464.16 in Employees’ NICs. Your company will also save £734.92 in Corporation Tax.
The £533.78 Employers’ NICs is refunded via the EA scheme. The only caveat is that you cannot claim the EA if you are the sole director of your company, and have no other employees.
You will be around £271 better off per year as a result of the corporate and personal tax savings compared to the £8,632 salary level. So, overall, you are better off paying yourself a £12,500 salary during 2019/20 if you are eligible to claim the EA.
The best way to draw dividend income
After you have chosen the right salary level to pay yourself (and any employees) during the tax year, your remaining income will be drawn down in the form of dividends.
Your company is entitled to distribute dividends from its retained profits, i.e. after all expenses and tax obligations have been met, and they must be paid to shareholders in amounts matching the percentage shareholdings owned.
As a company director, you decide when to declare dividends, but there are no rules about how often you declare them. It might be that you choose to postpone making a declaration until the following tax year, to minimise your higher rate tax liability, for example.
If you choose to split ownership of your company with your spouse then you, as a couple, will benefit from your joint tax-free allowances, especially if your spouse has no other forms of income.
As a company director, you will settle your outstanding tax liabilities via the annual self-assessment process.
Tax rates on dividends
Since 6th April 2016, dividends have been subject to fixed tax rates:
- 7.5% (basic rate)
- 32.5% (higher rate)
- 38.1% (additional rate)
Dividends are taxed after you have taken into account your salary, and any other earnings and investment income.
As of April 2018, there is also a £2,000 ‘dividend allowance’; however, this sits within your existing tax bands.
We hope this article has helped you, please do contact us if you’d like advice about your tax liability and income.