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

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
  • 7.5 % for dividends falling within basic rate tax (caution on how this is calculated)
  • 32.5% for dividends falling within higher rate tax (i.e. where total income exceeds £46,350)
  • 38.1% 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.
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