The start of the new tax year means that shareholder/directors may want to review the salary and dividend mix for 2019/20. The £3,000 employment allowance continues to be available to set against the employers national insurance contribution (NIC) liability. This means that where the company has not used this allowance it may be set against the employers NIC on directors’ salaries.
Where the only employees are husband and wife there would generally be no PAYE or employers NIC on salaries up to the £12,500 personal allowance. There would however still be employees NIC at 12% on the excess over £8,632 (£166 per week) which would be £464 on a £12,500 salary, leaving £12,036 net.
Due to the 12% NIC charge the best salary is the 8,632 as dividends (7.5%) are cheaper tax-wise. A combination of 8,632 salary and 41,368 dividends would result in total tax payable of 2,662.50, resulting in net income of 47,337 (94.67%).
Taxation of Dividend Payments in 2019/20
Traditional advice regarding extracting profit from the company would be to do so in the form of dividends. Where dividends fall within the basic rate band (now £37,500) the rate continues to be 7.5% after the £2,000 dividend allowance has been used. Thus where husband and wife are 50:50 shareholders they would each pay £2,663 tax on dividends of £37,500 assuming they have no income other than a £12,500 salary, leaving £34,837 net of tax.
So a combination of £12,500 salary and £37,500 in dividends would result in £46,873 (93.7%) net of income tax and NICs.
Ensure dividend payments are legal…
The Companies Act requires that companies may only pay dividends out of distributable profits. This means that in the absence of brought forward reserves the company would need to provide for 19% corporation tax in order to pay the dividends and thus there would need to be profits of £92,593 in order to pay dividends of £75,000 (after providing corporation tax of £17,593).
Overall the combination of salary and dividends suggested above would result in net of tax take home cash of £93,746 for the couple out of profits before salaries and corporation tax of £117,593 (20.3% overall tax). This still compares very favourably with the amount of tax and NIC payable if the couple were trading as a partnership.
The company gets full tax relief at 19%, the pension contribution is a tax-free benefit for the employee and at the age of 55 25% of the pension fund can be drawn tax-free (and the pension pot itself has tax-free growth); useful both for those who are thinking of starting pension savings and those close to the age of 55 (or past it). Note that annual allowances apply (£40,000 plus the carried forward of the previous 3 years unused if you were registered for a pension scheme in those years) and once you draw the 25% this annual allowance is further restricted