As a Business Owner, you have the autonomy to determine your own salary. In this article, we explore strategies for withdrawing profits from your business while minimising the portion that goes to taxes.
To reduce your tax liability, it's crucial to adhere to tax regulations, which can be complex. However, you are well within your rights to organise your financial matters to incur the minimal tax, as long as it remains within the established rules. Business owners typically have three primary options for extracting profits from their limited company: salary, dividends, and pension contributions.
Many business owners prefer to lower their tax obligations by taking a modest salary and obtaining the remaining income as dividends. This approach is favored because a salary is subject to income tax, with rates varying:
· Less than £12,571: No income tax.
· £12,571 to £50,270: 20% - basic tax.
· £50,271 to £125,140: 40% - higher rate tax.
· Over £125,140: 45% - additional rate tax.
Keeping your salary low not only reduces income tax but also leads to lower National Insurance Contributions (NIC), calculated as a percentage of your salary.
Historically, paying oneself through dividends was a straight forward method to minimize personal tax. While dividends can alleviate or eliminate income tax liability, they are not entirely tax-free. Dividends can only be paid from profits after deducting the applicable corporation tax, ranging from 19% for profits under £50,000 to 25% for profits exceeding £250,000. The tax on dividends depends on your total income and tax bracket, with a dividend allowance of £1,000 for the tax year 2023-2024.
For the same tax year, dividend tax rates can range from 0% to 39.35%, linked to your marginal rate of dividend tax and income tax band.
· Basic rate income taxpayers: 8.75% dividend tax.
· Higher rate income taxpayers: 33.75%.
· Additional rate income taxpayers: 39.35%.
It's important to note that dividend income from investments can impact your allowance.
Both you and your company can contribute up to £60,000 annually to a pension plan, assuming your earnings allow for it. The lifetime allowance charge has been eliminated, with potential plans to remove it entirely. Pensions offer tax efficiency and the advantage of being separate from your business. Extracting your pension from profits can reduce both income tax and National Insurance for both employee and employer.
Small Self-Administered Schemes (SSAS) pensions allow you to decide how to invest contributions. Currently, an SSAS can lend up to 50% of the total held to your business, providing an additional source of funds. There are constraints, such as the loan being a genuine investment and being repaid by the company with a reasonable interest rate. Your pension fund could potentially be utilized to acquire business premises, significant capital equipment, or fund various business initiatives.
If you wish to discuss the options above and what would be the most tax efficient for you and your company, please get in touch.