As a shareholding director you’ll be well aware that – whatever the current rates for Corporation Tax, personal Income Tax and National Insurance (NI) – the most tax-efficient way to take income from your company is via dividends.
Dividends can only be paid out of profits, meaning that this may not be possible when it comes to your new business. Here is some practical advice about why that is so and the available alternatives.
Dividends not suitable
Much has, and will continue to be, written about the attraction of dividends as a method for directors and shareholders to extract profits. But there are a number of situations (see below) in which paying yourself dividends is simply not an option:
• for companies without retained profit
• for companies with accumulated losses
• where there is a desire to make a distribution of profits favouring one shareholder over, or more than, another.
Salary or bonuses
The most clear and simple alternative to dividends is providing yourself with a salary and/or bonus. However, you should bear in mind that this comes with personal Income Tax and NI liabilities for both you and the company, payable through the PAYE system.
Benefits in kind
Although putting together a package of benefits in kind for yourself will broadly result in the same liability as Income Tax, it can result in a delay of the payment to HMRC and, more significantly, can reduce NI. As explained above, tax on salary or bonuses is paid under the PAYE system, usually on a month-by-month basis. Your tax liability in respect of benefits in kind, initially at least, is not assessed monthly and can be delayed for up to 20 months.
How can you take advantage of benefits in kind?
To make sure you gain from the advantages of benefits in kind, it will be necessary for your company to deal directly with the supplier in respect of the goods or services provided. So, if the company is paying utility bills, the invoice should be addressed to your company and not to you.
HMRC will adjust your PAYE codes so that the tax on benefits in kind is ultimately collected via your salary. This, of course, will take a number of years, by which time, hopefully, your business will have sufficient ongoing or retained profits to move from benefits in kind to dividends.
A practical example
Dave and Julia start XYZ Ltd in April 2016. They elect to pay themselves a modest salary of £20,000 per annum each plus a tailored benefits in kind package including covering the cost of a variety of household bills and school fees.
If we assume the total value of this package was £20,000 a year for each of them, both Dave and Julia would be obliged to declare their benefits in kind to HMRC when they submit their 2016/17 self-assessment returns. Importantly, the £4,000 each has due (£20,000 x 20%) will not be payable until 31 January 2018.
The NI advantages of benefits in kind come in two forms. First, the absence of employee’s NI means Dave and Julia would each save up to £2,400 (£20,000 x 12%) compared to salary or bonus. Second, NI on the benefits in kind in respect of the employer liability is deferred. So, if XYZ Ltd pays a benefit in May 2016, any resulting employer’s NI wouldn’t be due for payment until 19 June 2017.
The levels and bases of taxation, and reliefs from taxation, can change at any time. The value of any tax relief depends on individual circumstances.