Business owners who pay themselves through a combination of salary and dividends should revisit their remuneration strategy this tax year.
With Income Tax thresholds frozen until 2028 and a lower dividend allowance of £500, a strategy that once worked may now cost more than it saves.
How should you be paid as a director?
A salary of £12,570 uses the full Personal Allowance and entitles you to a credit on your National Insurance (NI) record for state pension purposes without triggering personal Income Tax or employee National Insurance contributions (NICs).
This regular salary combined with dividends, where payable, and pension contributions, could help you to reduce the amount of Income Tax that you are liable to pay.
If your company qualifies for the Employment Allowance, which has now increased to £10,500, employer NICs can be mitigated.
A lower salary of around £6,500 could be better for directors of companies not qualifying for the Employment Allowance, as a credit to their NI record for state pension purposes will be obtained and employer NICs will be lower.
Dividends
Any dividend income above £500 will be taxed at the dividend tax rate of 8.75 per cent, 33.75 per cent or 39.35 per cent, depending on your marginal rate of Income Tax – basic, higher and additional, respectively.
While dividend tax rates remain lower than Income Tax rates, the reduced allowance – introduced in the last few years – means higher effective rates for many than they have previously experienced.
However, a carefully planned director’s remuneration strategy, which incorporates dividends, can still help to minimise an individual’s annual tax bill.
When dividends cannot be paid to directors
Your company’s profitability and your shareholding will determine how much dividend you can pay yourself, as dividends can only be paid from retained profits after Corporation Tax.
That means if your company does not have any retained profits, you won’t be able to distribute dividends, and you will be limited to drawing a normal salary.
Setting your remuneration strategy
A blend of salary and dividends remains one of the most popular ways for directors to pay themselves, but achieving the most tax-efficient approach now involves carefully adjusting your income to reduce the amount of earnings that fall within higher tax bands.
You should speak to an experienced tax adviser to ensure your strategy aligns with the latest thresholds, minimises your tax liabilities, and allows you to keep more of your income.
