You as a director and your business are classed as two separate entities – therefore both are taxable.
- Corporation Tax is based on the profits of the company after your salary, but before dividends are taken out – and is currently payable at 19%
- Your salary is classed as a tax-deductible expense, so reduces the company profits.
- A director’s personal tax return covers your salary, plus the dividends taken out of the company (plus any other income – interest/rental/other investments etc).
- If you are a sole director then salary is usually taken up to the NI (National Insurance) level, then dividends are declared for the rest of the funds extracted from the company.
- Dividends will use up the rest of your tax-free personal allowance, £2k is tax free, then the remainder is taxed at 7.5%.
This is the most tax efficient way of structuring things, making the most of your allowances and lower tax rates. For example, if you were a sole trader, you’ll be paying 20% tax, plus 9% National Insurance, so there is a total of 29% tax to pay. If you took all the money out of the business as salary, then you’d get your tax allowance, but would be paying NI and have an effective rate of 33.8% in tax & NI.
As a Limited company you have more tax allowances and no NI to pay as a sole director (although your salary is high enough to get your tick for the year for state benefits), and a total effective rate of 16.5% after your allowances. The corporation tax rate is due to reduce to 17% over the next few years, so that will then give you a combined tax rate of 24.5%.
If you’d like to understand your tax options and have a comparison to see if a Limited company structure is better for your tax efficiency, please book a discovery call with us today.