Best ways to withdraw profits from your company

What is the most tax-efficient way for business owners to pay themselves?

Limited companies are separate legal entities from their owners therefore profits cannot be simply taken out, even if you are a sole director and shareholder – they belong to the company. As opposed to self-employed, company owners must follow certain procedures to get rewarded for their hard work. However, they get a choice of ways to pay themselves and careful planning can help reduce the tax liability for both the company and individual.

1.       Salary

Paying yourself wages reduces corporation tax liability as this is an allowable expense. However, the amount should be considered carefully – if it’s too low, the year will not qualify for National Insurance purposes such as state pension, but if it goes over certain threshold, it will attract Employee’s and Employer’s National Insurance contributions which outweigh corporation tax saving. Furthermore, if the salary exceeds personal allowance, income tax at 20% will become payable.

Before you can start paying yourself wages, you need to be registered as an employer. RTI requirements are strict and penalties are applied for non-compliance. There are certain deadlines and tasks involved, but tax-savings are definitely worth it. Contact us if you need assistance with employer registration or running your payroll. We will take care of it for you. You can also read our comprehensive payroll guide.  

2.       Dividends 

Very popular and tax-efficient option which should be considered after salary has been paid and there are available profits. Dividends are non-allowable for tax purposes as they are not expenses, they are profit distributions. Nevertheless, they do have some great advantages. They don’t attract National Insurance contributions and they are taxed at much lower rates  than income from other sources – 7.5% for basic-rate taxpayers, 32.5% for higher-rate and 38.1% for additional-rate compared to income tax rates of 20%, 40% and 45%. What is more, you get £2,000 dividend allowance on top of your personal allowance.

However, there are some legal matters to consider when it comes to declaring dividends. Certain procedures have to be followed and dividends declared cannot exceed available profits. You should always refer to recent accounts or consult an accountant. Find out more about legal aspects of declaring dividends here.

3.       Expenses reimbursement 

Anything you paid for personally that was wholly and exclusively for business purposes can be claimed back from the company. This includes business mileage and any incidentals expenses incurred during business journeys such as motorway tolls or parking fees. You can also claim a flat rate of £4/week if you work from home. These expenses will reduce corporation tax liability of the company and will not attract income tax as long as the reimbursement doesn’t exceed actual expenditure or approved HMRC rates.

4.       Director’s Loan 

Directors are allowed to borrow money from the company as a loan. They can also lend funds to the business. In both cases interest might be charged, depending on the loan agreement. If a director receives an interest-free loan which exceeds £10,000 at any point during the year, it is treated as Benefit In Kind and subject to extra National Insurance. Detailed records of all director’s loan transactions must be kept so that the outstanding balance can be established at any date. If the loan is still outstanding at the end of the company’s accounting period, it needs to be reported on a Corporation Tax Return and will be subject to additional tax charge if not repaid within nine months of the financial year end. Due to all these implications, care should be taken when going that route.

5.       Pay into your pension pot 

If the company pays into your pension pot, this is treated as tax-deductible expense, reducing their corporation tax bill. Such contributions are tax-free benefit for you too. There is an annual limit – up £40,000 can be contributed tax-free. However, that allowance can be reduced to as little as £10,000 if your “adjusted” income is over £150,000 (in short, “adjusted” income means total taxable income plus any salary/bonus sacrificed for pension contributions, minus any personal pension contributions you made). If your annual income reaches £110,000, calculations have to be performed to check if “adjusted income” exceeds £150,000. What you might want to consider is using carried forward pension allowance from the last three tax years. That allows you to catch up on missed contributions – you could contribute as much as £160,000 if you didn’t make any payments in the previous three years.

Which of these options is most tax-efficient to remunerate a director?

The short answer is – a mixture of salary and dividends.

Paying yourself a salary has a lot of benefits as long as it is kept at the right level. Above certain threshold its benefits become outweighed by tax charges. The amount should be considered carefully so that the tax savings are maximised. The remaining profits should be withdrawn in form of dividends. They are exempt from National Insurance and taxed at much lower rates than wages which makes them a better choice after certain amount of salary has been paid. There are a few issues to consider when declaring a dividend. We will cover these on our blog shortly.

Remember to claim back any business expenses paid for personally – the amount is not likely to be material, but it reduces profit subject to corporation tax and is non-taxable on you (provided reimbursement doesn’t exceed actual spending). You should do that as well as pay any pension contributions before the financial year ends. The amount to pay into pension pot should be carefully considered as it reduces profit that can be withdrawn as dividends.

With all these options, deciding on how to pay yourself might not be easy. We are here to help – after having an insight into the financial position of the business and your personal situation, we will be able to advise on how to withdraw profits in the most tax-efficient way. We can also take care of your statutory obligations such as annual accounts, corporation and personal tax returns, VAT returns and others. With Payroll Bureau and Bookkeeping in-house, our clients enjoy having just one dedicated accountant who looks after all of their financial affairs. What’s more – all of that comes with unlimited support and at affordable prices.

Call us on 0739 959 0993  e-mail: [email protected] or fill out a contact form here to get your personalised quote.  

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