Salary v Dividend – What is the best profit extraction strategy?

Balance

How much salary should you pay?

From 6 April 2018 (and not before) you can pay a salary of £702 per month without paying any tax or national insurance contributions (“NIC”).

If you choose this option you:

  • Do get National Insurance Credits towards some benefits for example state pension.
  • Must be registered as an employer.
  • Have to file an RTI (real time information) return each pay period – RTI fines will apply for late filing.

No income tax or national insurance is due on a salary at this level.

This is a perfectly legal and an acceptable way of paying yourself from your company; in fact HM Revenue & Customs (“HMRC”) have been known to state that they do not have a problem with this approach.

 

Dividends – from April 2018

Any dividends paid over £2,000 will attract dividend tax.

The rates of tax will be:

  • First £2,000 of dividends – tax free
  • 5 % for dividends falling within basic rate tax (caution on how this is calculated)
  • 5% for dividends falling within higher rate tax (i.e. where total income exceeds £46,350)
  • 1% for dividends falling within the additional rate of tax with income over £150,000.

How to work out your dividend tax

The calculations assume that you have no other income.

You would pay a salary of £702 x 12 from the company = £8,424

You can then pay £2,000 plus the remainder of your personal allowance as dividends without any tax = £2,000 + (£11,850 personal allowance less the salary of £8,424) = £5,426.

So a total of £13,850 will be tax free (dividend allowance + personal allowance). 

Note – this is per person.

You will pay tax after £13,850! 

Tax at 7.5%

For the next £32,500 of income you will pay tax at 7.5%.

So you can take:

  • a salary of £8,424
  • dividends of £5,426 + £32,500 = £37,926 

Total income of £46,350 

Dividend tax due on this will be (£32,500 x 7.5%) £2,437.50 

Tax at 32.5%

Dividend income over £37,926 will attract tax at 32.5%.

If your income exceeds £100,000 your personal allowance is restricted by £1 for every £2 of income over £100,000 and so will reduced to nil at an income level of £123,700.  

 

Dividend tax rule of thumb

The dividend tax rule of thumb to use is:

  • take a salary of £8,424
  • tax free dividends of £5,426 to use up the remainder of your personal allowance
  • £75 of tax per £1,000 of dividends from £5,427 up to total dividends of £37,926
  • £325 of tax per £1,000 of dividends over £27,927

If your income exceeds £100,000 obtain a personalised quotation as it gets really complicated!

Payments on Account and the new Dividend Tax

The dividend tax puts most people into payments on accounts.

Notes/disclaimer
Dividends are paid out of post tax profits.

Failure to process your payroll and submit the correct RTI (Real Time Information) returns could result in fine or penalties.

Disguised employment issues aside, operating as a limited company is perfectly legitimate and is purely a business choice.

Salary is an allowable business cost and will reduce the profit subject to corporation tax.

Everyone has different tax affairs; this fact sheet is for illustration purposes only and should not be relied upon for your tax planning or tax affairs.

We recommend that you seek the advice from a qualified accountant before making any tax planning decisions to ensure you have a tax plan that suits you.