06 April 2016 marks the start of the tax year. At this time the personal allowances increase and therefore we need to review the optimum mix of salaries and dividends to draw from your business.
As you already know, a major new tax on dividends has been introduced from April 6th this year. This does complicate things, so please feel free to contact us direct if you need clarification on this matter.
Even with the introduction of the new dividend tax, it is still much more tax efficient to pay directors a low salary and take the rest of their remuneration using dividends.
It is important to take into account that this strategy does depend on the company making sufficient profits to pay a dividend. You should always make sure that your company has made enough profit and provided for the corporation tax on that profit, before taking a dividend.
The advice in this note doesn’t take into account any complicated personal circumstances. To keep things as straight forward as possible I’ve assumed that the director receives no other income apart from income from their Limited Company (I.e. we haven’t taken into account any pensions, salary or rental income etc.)
For the tax year 2016/17 the annual personal allowance has been raised to £11,000. This means that you can earn £11,000 without paying any income tax.
However, the national insurance threshold hasn’t been raised from £8,060. So, if you take a salary of between £8,060 and £11,000, you’d pay no tax, but would pay employees national insurance at 12% on the amount above £8,060.
In the tax year 2015/16, all companies could claim an allowance, called the Employers Allowance, reducing the amount of employer’s national insurance by up to £2,000 in the year. As a result of this, it was slightly more tax efficient in overall terms for total national insurance and corporation tax, for directors to pay a monthly salary equal to the personal allowance of £10,600 and pay the small amount of employees national insurance that was due in the tax year, approx. £300 paid in the months January to March 2016.
From 06 April 2016, if the company only employs a single or multiple director’s then the company is not entitled to claim the Employers Allowance.
As a result of this, we are recommending that directors set their salaries at £8,060 pa, £672 per month in 2016/2017
It is important to note that when you receive an annual salary of £8,060 paid via the payroll, this salary counts towards your state pension as it counts as a years stamp for your national insurance history to help protect your future entitlement to the state pension.
Dividends are still the most tax efficient way of taking the rest of your remuneration.
If you use the recommended salary then you can take a further £7,940 in dividends without paying any tax (This is the total of the £5,000 dividend allowance plus your unused personal allowance)
In previous years, you have been able to take a maximum of £30,874 without paying any tax. Taking the same amount in 2016/2017 will now cost £1,720 in tax.
However, there is some good news. The previous “grossing up” of dividends (the confusing 100/90 calculation) has now been scrapped. That means you can take out a further £4,000 at basic rates.
The maximum dividend you can withdraw at basic rate tax is £34,940.
This level of dividend will cost you £2,025 in tax (last year the same level would have cost you £1,011).
If you take the advised salary of £8,060 and the maximum basic rate dividend of £34,940, you will end up with £40,975 in your pocket after tax.
Any additional dividends you take over £34,940 will be taxed at 32.5% up to £92,000 of dividends. If you are likely to earn over £100,000 next year then you will need to talk to us separately as it’s much more complex!
A Note on Tax Payments
When you incur a personal tax bill of over £1,000 you are required to make a “payment on account” towards the following tax bill. This is calculated as 50% of your current bill. You therefore need to be prepared that in January 2018 your total tax payment to HMRC will include a further 50% towards the following year’s tax bill. If you take the maximum personal band dividends, then this will amount to a further £1,012.50 in addition to the £2,025. This isn’t additional tax, but is a timing difference.
Tax Planning Ideas
Here are some tax planning ideas you might want to consider to help reduce the impact of the dividend tax changes. Before implementing any of these it is best to discuss these with us first.
Transfer a minority shareholding to your spouse so that they can receive up to £5,000 of dividend tax free.
Consider pension contributions to reduce your overall corporation tax charge.
Ensure all personal expenses are reclaimed from your business. This covers items such as business mileage, travel and subsistence and other business related costs.