Dividends V Salary: Making profits pay for your salary

We all want to keep more of our hard-earned money. For business owners, it can be a difficult balancing act to find the most tax-efficient way to get paid from the company’s profits.

This is where the dividend versus salary debate comes into play, as the way in which we are paid can have a big impact on the amount of tax we owe.

Most business owners are paid via a regular salary, alongside dividends which is an amount paid out by a company’s profits to shareholders.

Expert tax advice is often needed to help ensure business owners are following tax rules, while ensuring their clients can make the most of their profits.

Here are some top tips for anyone looking to get that balance right between dividends and salary to mitigate their tax bill.

Understand how dividends are taxed

Every taxpayer has a tax-free dividend allowance of £2,000. Any dividend income over this amount will be taxed at your marginal rate as follows:

• Basic rate – pay 8.75%
• Higher rate – 33.75%
• Additional rate – 39.35%

Figure out how much salary to pay yourself

When considering how much salary to pay yourself, you should take into account factors such as the company’s profitability, your own personal tax liabilities, and if you want to keep state benefits.

If you want to accumulate qualifying years for the state pension, your salary must be at or above the NIC Lower Earnings Limit, which is currently £6,396 per year.

Also, be aware that if you earn more than the NIC Primary Threshold you will have to pay NICs from your salary.   The NIC Primary Threshold is currently £9,880 but will increase to £12,570 from 6 July 2022.

Meanwhile, income tax kicks in on salaried earnings above the personal allowance, which is currently £12,570.

What are the perks of paying yourself a salary?

By paying yourself a salary you will be able to accumulate qualifying years towards a state pension and will be eligible for maternity/paternity benefits. Salaries are also classed as an allowable business expense for Corporation Tax.

A drawback…

Remember that drawing a salary means both you and the company must pay NICs. As of this April, both employee and employer NICs have increased by 1.25 percentage points under the new health and social care reforms.

For advice and support please contact Rachel Warriner, Head of Corporate Tax, at RMT Accountants & Business Advisors on 0191 256 9500 or via the contact us form.