Thursday, 28 November 2013

How to Extract Profits from your Business Tax Efficiently


Extracting profits from a Personal or Family company can be done in various ways and you should always consider the most tax efficient way of taking out the profits in respect of both the company and your personal tax situation.

No two situations are the same so it is always best to seek professional advice before deciding on the best policy for you.

One of the most common and beneficial strategies in respect of extracting profits, is to pay a small salary of above the lower earnings limit (£109 per week for 2013/14) and below the secondary threshold for National Insurance purposes (£148 per week for 2013/14).   This ensures your entitlement to the state pension and contributory benefits but can be paid to you free of tax and National Insurance.  

Profits above this threshold should then be taken out from the Company as dividends, as long as the company has sufficient retained profit to cover the amounts.

This strategy is usually a lot more efficient in terms of tax than by simply paying a salary or bonus from the Company as no National Insurance contributions are due on the dividends.  The dividends will also not attract any further tax on you personally, until your basic rate limit is reached.

The voting of the dividends must be properly prepared and in accordance with company law.

The payments to you from the Company in respect of Salary payments and Employers NIC contributions are fully deductible in calculating the Company’s profit for Corporation Tax.

Example:

Bobby is the sole shareholder and director of OGGY Ltd. He pays himself a salary of £8,000 a year from the Company and has other income of £2,000 a year.

The company has profit before tax of £20,000, which he wants to withdraw. 

If Bobby elected to take the money as an additional salary he would be able to pay himself only £17,575 from the profits, as the remaining £2,425 would be chargeable to employers NIC (£20,000 X 100/113.8).

Bobby would then need to pay 20% tax on the salary amount received above his personal tax allowance for the year, (£9,440 2013/14), as his income has already surpassed this amount (£8,000 normal Salary & £2,000 other income), the full amount would be taxable at 20%, totaling £3,515.  Bobby will also have to pay employees NIC (12% 2013/14) of £2,109.

Therefore the total tax paid in this scenario is £0 in Corporation Tax, £3,515 Income tax and £4,534 in NIC.  This leaves Bobby with a net amount after tax of £11,951, from the original £20,000 of Profit.

However, if Bobby was to take the £20,000 as a dividend, corporation tax payable would increase to £4,000 (20,000 X 20%).  This leaves £16,000 available for distribution.

As Bobby will be taking out the monies as a dividend, there will be no further charges in relation to NIC, either Employers or Employees.

As UK Dividends are automatically paid net of a 10% tax credit, Bobby would be treated as receiving a gross dividend of £17,777.  Tax of 10% (£1,777) would be due on the dividend, but this is already matched by the tax credit (£1,777) attached to the dividend paid.  Therefore Bobby would not have any further income tax to pay on the dividend received, as he is well within his Basic Rate Tax Band.

The total tax paid in this scenario is only £4,000.  Bobby, therefore, retains £16,000 of the profit.

As you can see in this scenario, with a small amount of careful planning Bobby is £4,049 better off a year by taking a dividend rather than a salary or bonus.

To discuss the best efficient way to extract profits from your business please call us on 0800 690 6537 or drop us an email to tax@taxationuk.com.

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