The personal allowance for 2019/20 has increased to £12,500 and the basic rate threshold to £50,000.  This means you start paying higher rate tax only on income up over £50,000.

The dividend allowance remains at £2,000.

So for a limited company director, what is the most tax efficient pay strategy this year and why?

Most owner managed businesses take a low salary and a higher dividend to be tax efficient.  Why is this the case?  (Prepare for some number crunching!)

  • You take a salary from the company because this triggers a national insurance record for your state pension. To trigger this for the year, you need to pay yourself a minimum of £6,136 in salary.  You can pay up to £8,632 and still pay no NI for the year
  • Your company can claim 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.  Dividends are paid out of post tax profits from the company so you don’t save corporation tax on this payment. But NI is not paid on dividends and the rate of personal tax you pay on dividends is only 7.5% up to the £50k basic rate threshold.

So what amounts should you pay yourself to minimise your tax liabilities?

There are 2 options:

1. Paying a basic salary at the NI threshold.

This option is simplest and means you pay no NI for the year (but it does still count as a qualifying year for your state pension)

  • Basic pay of £8,632 per year – or £719.33 per month.
  • You then utilise the rest of your personal allowance and pay this in dividends ( £12500-£8632) = £3868
  • You then utilise all your basic rate band and pay this in dividends – £37500
  • Total dividends for the year are therefore £41,368.
  • At this level, you will not pay any higher rate tax on your dividends. You will pay personal tax of £2,663 on these dividends which you will pay via self assessment.  (7.5% x (41,368-3,868-2,000) for those who like the maths!!)
  • The company will save corporation tax on the salary paid of £1,640.

Note that you will need to set up a payroll for the company and file RTI returns paying this salary, and you will need to file a personal tax return.

2. Paying salary up the personal allowance threshold

This is more tax effective if you have more than one person on the payroll and can claim the NIC Employment Allowance. If you are a sole director, you cannot claim this and should stick to option 1.

  • Basic pay of £12,500 per year – or £1041.66 per month.
  • You then utilise all your basic rate band and pay this in dividends – £37500
  • Total dividends for the year are therefore £37,500.
  • At this level, as before you will pay personal tax of £2663 on these dividends
  • However, you also pay employees NIC of £464 on your salary. This is deducted at source when you run the payroll and the company will pay it over to HMRC for you.  Your net pay in the months when NIC is due will therefore be lower.
  • The company will save corporation tax on the higher salary paid of £2,375.

So which option?

Keeping it simple or for sole directors with no-one else on the payroll – option 1.  There is no NI to pay and you have a fixed salary each month of the year.

If you have more than one person on the payroll, can benefit from the Employers Allowance, and will remember to pay over the NIC when it is due, then option 2 will save you £271 overall in tax for the year and is therefore more tax-efficient.

Do remember that to pay these salaries from your limited company, you need to have an official payroll set up with HMRC and to file RTI returns.  The above illustrations are also for general guidance only, and are based on a UK taxpayer with no other income for the year. For help with this, or further advice on tax efficient pay, please contact Rosie Forsyth of Wilkins & Co