Business owners often wonder if they should be rewarded for the success of their company by way of either paying themselves a bonus or receiving dividends.
As always, the answer is rarely simple and will depend on several factors, including the tax implications.
The UK tax changes that were introduced recently have also meant that the most common method of nominal salary with a dividend top up may no longer be the most sensible option available.
However, the tax impact is not necessarily the main driver in deciding what might work best, and there are other variables to consider when making this judgement.
Do you need the cash?
Who doesn’t need some extra money from time to time? However, it is always sensible to remember that taking money out of your company is likely to involve both a tax charge and administrative costs.
Once the company has paid corporation tax on its profits, it won’t pay tax on its accumulated income unless it invests it into some form of taxable investment, like a bank account.
Therefore, unless you specifically need the money at that moment in time, you should probably leave it where it is to avoid unnecessary expense and stress.
Are the funds available?
Your company is a separate legal entity and you and any other directors have responsibilities towards other shareholders, employees, suppliers, customers, and the authorities etc.
Paying just you could lead to problems of equity or solvency, and specific rules will apply to some methods of payment.
On the other hand, the company may have lots of surplus cash which could cause a potential problem for its status as a trading company, so passing some to you could be advantageous.
What are your other types of income?
If you do not already receive any dividend income, then you can receive up to £2,000 per annum without incurring any tax charge.
However, if you’re already using this allowance, dividends will be fully taxable.
Similarly, if you don’t currently receive any other employment or self-employment income, then you can receive a salary of up to £9,880 without incurring a National Insurance liability.
Although, if you’re already earning above the primary threshold, any additional earnings will be taxed.
When an individual receives a bonus, income tax is payable in the UK at 20%, 40% or 45% for basic, higher, and additional rate taxpayers respectively.
An individual will pay NICs at 12% for earnings between £12,570 and £50,270, and 2% following this and employers NICs are payable by the company, at 13.8% on earnings above £9,100.
The company is entitled to corporation tax relief on a bonus payment and the employers NICs thereon, which could save corporation tax at the small profits rate of 19%, or at the highest rate of 26.5%.
For UK resident individuals, a dividend is taxed at the dividend rates of income tax. There is a tax-free dividend allowance for 2023-24 of £1,000, which has been reduced from £2,000, and income tax is payable at 8.75%, 33.75% or 39.35% for basic, higher, and additional rate taxpayers respectively.
The tax due will be payable through self-assessment and would need to be paid by 31 January 2025 for dividends paid in the 2023-24 tax year.
Dividends are paid from a company’s profits after tax and are not deducted when calculating the company’s profits subject to corporation tax.
Therefore, paying a dividend will not reduce the overall corporation tax bill.
Receiving a bonus
Assuming that you are a director of the company, you will not be subject to the minimum wage regulations.
However, you should still consider whether the role you perform merits a regular salary and if there is a commercial rationalisation for those payments.
This will need to go through the PAYE system and the company will be subject to NICs at 15.05%.
Assuming you have used your dividend allowance, dividends will be subject to income tax at 8.75% (basic rate taxpayers), 33.75% (higher rate taxpayers) or 39.35% (additional rate taxpayers).
Dividends aren’t subject to NICs but are also not deductible for the company and you will need to include them on your self-assessment tax return.
The company must have sufficient reserves to pay dividends at the same rate to all other shareholders with the same class of shares, even if those shareholders opt to not receive the dividend at that time.
A history of paying dividends may have an impact on future company share valuations.
What other options are there?
There are other ways you can be recompensed for the different forms of service you provide to your company, aside from a bonus or dividends. See below:
- Pension contributions: If the company makes contributions to a pension scheme on your behalf, you will not be subject to income tax if total contributions are within the annual allowance of £40,000 (reduced for those earning more than £240,000).
- Benefits in kind: If you opt to receive benefits, such as a company car or use of a company asset, the value will be subject to income tax as if it were earnings and the company will be subject to Class 1A NICs at 15.05%.
- Loan from the company: Generally, the loan itself won’t be subject to income tax or NICs, but HMRC may challenge this if the loan is in anticipation of earnings on which NICs would ordinarily be due. If the loan is outstanding for more than nine months following the end of the accounting period, the company pays tax at 33.75%. However, this is repayable when the loan is repaid or written off.
- Rent paid on assets owned by you but used by the company: This is subject to income tax at 20%, 40% or 45%, but is not subject to NICs. The company can deduct the rent paid from its trading income and save on corporation tax.
Seek expert advice
You should always consult an expert when deciding how best to remunerate yourself through your company.
You and the company will have to deal with the consequences of your decision, and you cannot get to the end of the tax year and only then decide how you want your drawings for that year to be considered.
You need to review the necessary requirements for the declaration of dividends, salary payments, and provision of benefits at the time of the payment and at each subsequent reporting point.
At Williamson & Croft, we provide specialist tax advice to support clients through all events in their business or personal affairs.
Our team’s goal is for you to have the necessary advice to make an informed decision on your tax affairs, ensuring that they are tax efficient and fully compliant.
We provide clear, concise advice and manage the entire process of the tax event to mitigate the stress and risks of running a business.
Contact us today to discuss your options.