2019/20 - salaries, dividends and the best mix for you
With the dividend allowance unchanged from last year, and the now-established guidance from HMRC on what does and doesn't qualify for the Employment Allowance, the whole situation for one-person and small businesses operating as a limited company paying Corporation Tax remains quite complex. Here's our guidance and ideas. We hope it helps! (Please note: If you are planning on taking in excess of £100,000 from your company, please get in touch with a tax advisor - it may be there are more appropriate ways to receive benefits from the company than those set out below).
how many employees does the Company have who earn above the Secondary Threshold for Class 1 National Insurance contributions (which is £166/week - or £8632/year in 2019/20 - see our tax tables).
If the answer is just one (i.e. yourself) and you are a Director of the Company, then the Company can't claim the Employment Allowance, so you need to be on the LEFT side of the screen from here on in. If the answer is either (i) one, but that person isn't a Director, or (ii) more than one, then you are on the RIGHT side of the screen from here on in. If you want to see the detailed guidance HMRC issued on this, check it out here.
Decide what salary to take:
If any of these apply;
- only one employee (or director) in the limited company is paid above the Secondary Threshold, and that employee is a director of the limited company OR
- you work under IR35 rules OR
- you employ someone for personal, household or domestic work (like a nanny or gardener) - unless they’re a care or support worker OR
- you’re a public body or business doing more than half your work in the public sector (such as local councils and NHS services) - unless you’re a charity
then your company is not eligible for Employer's Allowance - which means the company will need to pay Employers National Insurance on anything above the Secondary Threshold (£166/week for 2019/20).
You will therefore be better off if you limit your salary to the Secondary Threshold (i.e. £8632) and take dividends for any income above this.
- you have more than one employee earning above the Secondary Threshold (£166/week) OR
- you have one employee paid more than the Secondary Threshold but who is not a Director AND
- you are not working under IR35 rules AND
- your employee is not someone for personal, household or domestic work (like a nanny or gardener) - unless they’re a care or support worker AND
- you’re not a public body or business doing more than half your work in the public sector (such as local councils and NHS services) - unless you’re a charity
you are eligible for the Employment Allowance which means you can claim up to £3,000 (2018/19) off your Employer NI contributions.
If this applies, you're better off taking the full tax free allowance as salary - which for 2019/20 is £12,500 - but only if you don't have other employees for which you can use the allowance.
Pay anything above your salary as dividends. The dividend allowance for 2019/20 remains at £2,000. This means that you personally won't pay tax on the first £2,000 of dividends from your Company; however, bear in mind that Corporation tax for the Company is calculated BEFORE dividends are paid, so the tax for the company of dividends is 19% (2019/20).
In addition, there are personal taxes to pay on any dividends above the £2,000 allowance.
Make sure you put money aside for your personal tax and also within the Company for your Corporation tax. You'll be paying PAYE and any NI monthly, but if you're a Director you must submit a self assessment which will give a full account of income and tax paid for you personally. We can help with
- estimating the tax you'll need to put aside and
- calculating and submitting personal self assessment tax returns and corporation tax returns.
Firstly, let's look at the new tax rates for salary and dividends in 2019/20
The personal allowance for 2019/20 has increased to £12,500 (2018/19 £11,850). The basic rate threshold has increased to £50,000 (2018/19 £46,350).
The dividend allowance remains at £2,000.
You can find details about all the 2019/20 tax rates on HMRC's website.
p> In the 2019/20 tax year, any dividend in excess of the £2,000 allowance will be taxed as follows:
- You won't pay any tax if you have unused personal allowance which covers your additional dividend
- Any dividends in the basic rate tax band (up to £50,000) will be taxed at 7.5%
- Dividends in excess of the basic rate tax band will be taxed at 32.5%
Any dividends falling within the additional rate band (income above £150,000 for 2019/20) will be taxed at 38.1%
Which means that for 2019/20 the best mix is a low salary, high dividends
Most owner managed businesses take a low salary and a higher dividend because this is the most tax effective combination for salary and dividends in 2019/20. The strategy works as follows:
Shareholders in owner managed businesses normally choose one of two strategies - taking a salary at the minimum level to trigger a national insurance record for your state pension (i.e. the left hand side in Step 2 above) or taking a salary at the personal allowance level (the right hand side in Step 2 above).
The left hand side:
National Insurance limits:
At this level of dividends you will have basic rate tax to pay of £2,663 via your Self Assessment, calculated as follows:
- You take a salary between the minimum level because this triggers a national insurance record for your state pension and the personal allowance level
- Your company can claim the the cost of your salary when it calculates its corporation tax. As a result it will save corporation tax at 19% on any salary taken.
- You take any further money from the company as dividends. Remember that dividends are declared after tax so the company doesn't save corporation tax on any dividends taken. Also note the following points:
- You can take dividends up to the level of post-tax profit available in the company ie the total of your current year's post-tax profit and any retained profits brought forward
- National Insurance isn't paid on dividends
- The company doesn't have to pay out all available profits at one time - meaning dividends can be managed to minimise your personal tax liability
- Lower earnings limit: you need to earn above this limit to protect your entitlement to the state pension. You won't necessarily have to pay any NI at this limit. This is £6,136 for the 2019/20 tax year.
- Primary threshold: if you earn above this limit you will start paying National Insurance and the Company will pay Employer NI. This threshold is £8,632 for the 2019/20 tax year.
- We recommend you pay yourself a salary at the primary threshold ie £8,632.
- You could then draw dividends up to £41,368 without having to pay any higher rate tax (basic rate band of £50,000 less salary of £8,632).
- Nil tax up to personal allowance of £12,500 (used £8,632 for salary and £3,868 for dividends)
- Nil tax for dividends at £2,000 due to the dividend allowance
- £35,500 (£41,368 less £3,868 less £2,000) dividends taxable at 7.5% - £2,663
- You will have £47,337 (£50,000 less £2,663) in your pocket after tax.
The company will also save corporation tax of £1,640 (£8,632 * 19%) with this strategy
The right hand side:
Paying salary to utilise the employment allowance. Please note: This option won't be available if you're the company's sole director and the only person on the payroll. This approach also won't be effective if the employment allowance has already been utilised against the NI due on the salaries paid to your company's other employees.
However if you do have surplus employment allowance available we recommend you pay yourself a salary up to the personal allowance of £12,500.
You could then draw dividends up to £37,500 without having to pay any higher rate tax (basic rate band of £50,000 less salary of £12,500).
With this strategy, there will be £3158 basic rate tax and Employee's national insurance to pay. You can see how this is calculated below:
- Employer's National Insurance - £495 (being £12,500 less Primary Threshold (£8,632) = £3,868 *13.8%) . However in this example we're assuming that this is covered by the employment allowance.
- Personal allowance - £12,500 all used against salary
- Nil tax for dividends at £2,000 due to the dividend allowance
- £35,500 (£37,500 less £2,000) dividends taxable at 7.5% - £2,663
- Employee's national insurance payable on salary - £464 (£12,500 less £8,632 = £3,868 * 12% (assuming NI letter = A))
You will have £46,873 (£50,000 less £2,663 and £464) in your pocket after tax.
The company will also save corporation tax of £2,375 (£12,500 * 19%) with this strategy.
In other words:
Whilst the first strategy results in more money in your pocket personally, there is a greater corporation tax saving in the second strategy. So if you take into account the corporation tax saving when taking a higher salary, you would be better off by £271 if you choose the second option and the conditions relating to employers NI allowance apply.