Are you a Director looking for the most tax-efficient way to pay yourself from your Limited Company? In this post, I will share with you the two most common ways Directors take money out of their Limited Companies – salary and dividend. I’ll show you how to calculate the perfect mix of salary v. dividend to pay yourself that will make the biggest tax saving. Both for you and your Ltd Company.
The information contained here is for guidance and information purposes only. It should not be relied upon as professional accounting, tax and legal advice. For specific advice relevant to your own situation, always contact a professional.
How Can You Pay Yourself from Your Limited Company
There are two main ways you can pay yourself as a Director of a Ltd Company:
- Salary
- Dividends
These are not mutually exclusive. You can pay yourself in both ways.
In fact, by finding the right combination of salary v. dividend Directors can pay themselves in a way that will legitimately reduce their company and personal tax bills.
The most tax-efficient combination of :
- The tax rates;
- Dividend tax rates;
- Corporation tax rates;
- National insurance rates.
That’s because each of these has different tax rates and thresholds including amounts that you can pay yourself tax-free.
The information contained in this post is for guidance and information purposes only. It should not be relied upon as professional accounting, tax and legal advice. For specific advice relevant to your own situation, always contact a professional.
How to Take a Salary from Your Limited Company
To pay yourself a salary from your Ltd Company you’ll need to set up a PAYE scheme with HMRC in the name of your business.
You’ll then need to run payroll and report to HMRC each month the amount that you have paid yourself, along with any national insurance and income tax deducted.
It is common for Company Directors to only pay themselves a portion of their salary through Company payroll.
This brings certain benefits to them and their Ltd Company certain benefits.
What are the benefits of taking a salary
- You have a payslip which is useful if you apply for loans or mortgages;
- You make contributions towards your state benefits like the recent Covid-19 benefits, state pension or maternity allowance;
- Your salary is an allowable business expense which reduces your taxable profit for corporation tax purposes;
- You can take your salary even if you’re business is loss-making (you cannot take a dividend if your business make a loss and there are insufficient reserves).
These benefits are great.
But depending on the amount of salary you take through payroll, it can actually cost you more in terms of income tax and national insurance than dividends.
This is why Limited Company owners like to find that optimum mix of Salary v. Dividend.
What Tax Do You Pay On Your Salary?
When you are paid through a PAYE scheme you’ll need to pay:
- Income tax (the most common tax code is 1250L)
- Class 1 National Insurance
- Employers National Insurance
The amount of each of these that you’ll pay depends on how much you pay yourself.
The current rates of each are:
| 2021/2022 | 2020/2021 | |
|---|---|---|
| Personal allowance 0% | £12,570 | £12,500 |
| Basic rate 20% | £12,570 to £50,270 | £12,501 to £50,000 |
| Higher rate 40% | £50,271 to £150,000 | £50,001 to £150,000 |
| Additional rate 45% | over £150,000 | over £150,000 |
| Employees Class 1 National Insurance 2021/2022 | Weekly | Monthly | Annually |
|---|---|---|---|
| Lower Earnings Limit (LEL) Employees do not pay National Insurance but get the benefits of paying | £120 | £520 | £6,240 |
| Primary Threshold (PT) Employees start paying National Insurance | £184 | £797 | £9,568 |
| Secondary Threshold (ST) Employers start paying National Insurance | £170 | £737 | £8,840 |
| Upper Earnings Limit (UEL) All employees pay a lower rate of National Insurance above this point | £967 | £4,189 | £50,270 |
| Employee Rates | 12% | Between the Primary Threshold and Upper Earnings Limit | |
| 2% | Above Upper Earnings Limit | ||
| Employer Rates | 13.8% | Above the Secondary Threshold |
| Employers Class 1 National Insurance 2019/2020 | |
|---|---|
| up to £8,722 per year | 0% |
| Over £8,722 per year | 13.8% |
What is a Dividend?
A dividend is an amount paid to a shareholder based on the profits available in a Limited Company.
The amount of dividend that is paid is decided by the Directors.
So if you are director and shareholder of your Ltd Company, you’ll elect as Director to pay yourself a Dividend!
For 2010/2020 you can earn dividend income of £2,000 tax-free. Once you take more than this you’ll pay income tax on your dividend income of.
Here are the UK Dividend Tax Rates:
| Rate | Band | % |
|---|---|---|
| Basic Rate | £12,501 to £50,000 | 7.5% |
| Higher Rate | £50,001 to £150,000 | 32.5% |
| Additional Rate | over £150,000 | 38.1% |
There is no national insurance on dividend income.
If you compare the dividend tax rates to income tax rates, you’ll see they are much lower.
For example, the basic rate of income tax is 7.5% on dividends rather than 20% for all other income.
In addition, there is no national insurance on dividend income.
So finding the optimum combination of salary and dividend to pay yourself, will reduce the rate of tax you pay and enable you to take advantage of tax-free allowances.
What is the Optimum Mix of Salary v. Dividends for 2019/2020
For 2019/2020 the best way to pay yourself from your Limited Company is to take a mix of salary and dividend.
The amount of each does depend on your personal circumstances, but generally, you have two options to choose from:
1. Pay Yourself a Salary of £12,500 salary and the Rest as Dividend
This is right for you if:
- Have no other forms of income and adjustments for your taxes
- Earn less than £100,000 and unaffected by the personal allowance restriction
- You have the standard tax code of 1250L
- You have no other employees on your payroll
Why is this the ideal Salary to take from your Limited Company?
By taking £12,500 you are matching the personal allowance so won’t pay any income tax but you will pay Class 1 National Insurance.
On the basis you have no employees, you’ll won’t pay any Employers NI because this will be covered by the employment allowance.
Let’s assume you want to pay yourself a gross salary of £32,500 a year from your Limited Company split in the most tax-efficient way.
This is how your tax bill will look:
| Gross Salary | Directors Dividend | Total | |
| Gross Salary | 12,500 | 20,000 | 32,500 |
| Personal allowance | (12,500) | (12,500) | |
| Dividend tax allowance | (2,000) | (2,000) | |
| Taxable Income | 0 | 18,000 | 18,000 |
| Income tax | 0 | 0 | |
| Dividend tax (7.5%) | 1,350 | 1,350 | |
| Employees National Insurance | 464.64 | 464.64 | |
| Take-home pay | 30,685.36 | ||
| Total tax to pay | 1,350 | ||
| Corporation tax saving | 2,375 |
Compare this to if you took your salary of £32,500 through your PAYE scheme only and no directors dividend.
You would pay total tax and national insurance:
| Gross Salary | 32,500 |
| Income tax | (4,000) |
| National Insurance | (2,864.16) |
| Take-home pay | 25,635.84 |
| Employers NI | 3,293.78 |
| Total tax | 10,157.94 |
| Corporation tax saving | 6,175 |
Comparing the two options take-home pay would be £25,635.84 under PAYE compared to £30,685.36 by combining salary and dividend.
By including the corporation tax saving is £3,800, your tax-saving by paying yourself with salary and dividend is £1,249.52 and you have a larger take-home pay.
Here is your second option.
2. Pay Yourself as Salary of £8,600 and the rest as Dividend
This is suitable if you have employees who will benefit from the £3,000 employment allowance.
Again the same assumptions apply that:
- Have no other forms of income and adjustments for your taxes
- You have no other forms of income
- You have the standard tax code (1250L for 2019/2020)
You pay yourself £8,600 through payroll and a dividend of £23,900.
| Gross Salary | Directors Dividend | Total | |
| Gross Salary | 8,600 | 23,900 | 32,500 |
| Personal allowance | (8,600) | (3,900) | (12,500) |
| Dividend tax allowance | (2,000) | (2,000) | |
| Taxable Income | 0 | 18,000 | 18,000 |
| Income tax | 0 | 0 | |
| Dividend tax (7.5%) | 1,350 | 1,350 | |
| Take-home pay | 31,150 | ||
| Total Tax | 1,350 | ||
| Corporation tax saving | 1,634 |
By choosing this mix of salary v dividends, although dividend tax is the same, your take-home pay is higher £31,150 and your total tax saving is £1,205.64:
| Option 1 | Option 2 | Tax-Saving | |
| Gross Salary | 12,500 | 8,600 | |
| Directors Dividend | 20,000 | 23,900 | |
| Take-home pay | 30,685 | 31,150 | |
| Employees Class 1 National Insurance | 464.64 | – | 464.64 |
| Dividend tax | 1,350 | 1,350 | 0 |
| Corporation tax saving | 2,375 | 1,634 | 741 |
| Dividend tax (7.5%) | 1,350 | 1,350 | 0 |
What to Watch Out For When You Pay Yourself with a Directors Dividend
Managing your accounts carefully is a key part of paying yourself by salary and dividend from your Limited Company:
- You’ll need to save up for your tax bill on your dividend (that’s £1350 in the scenarios above);
- Directors Dividends can only be paid if you have sufficient profits and reserves on your balance sheet;
- Depending on the size of your dividend you will most likely need to make a payment on account which is a 50% contribution towards your next year’s tax bill.
FAQs
How Much Dividend Can You Pay Yourself Before Paying Tax?
Directors can take advantage of the UK Dividend Allowance, which means they can pay themselves a dividend for 2019/2020 of £2,000 tax-free.
Do You Have to Pay Yourself a Salary From Your Limited Company?
If you are a Director of your own Company there is no legal requirement for you to pay yourself a salary. You can opt to just take a dividend.
However, there are benefits and tax advantage for paying yourself a salary.
Can You Withdraw Money as a Directors Loan?
If you withdraw money from your Company as repayment for loans you have made in the past, then you can do so tax-free until all the money is repaid to you.
If a Director draws money beyond what they are owed back or as salary then that will result in an overdrawn directors loan account.
An overdrawn directors loan account will attract tax charges on the Company and the Director so it is not a tax-efficient way to pay yourself or a way of paying yourself tax-free.
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