Extracting profits from a business
How do you go about drawing profit from your business, and doing so efficiently?
If your business operates as a partnership or sole trader, the profits it makes are what you are taxed on, subject to any expenses which are not deductible for tax purposes. It makes no difference to your tax bill whether the profits are held within the business or extracted for your personal use.
Paying yourself a salary of between £6,032 and £8,424 for a full year counts towards the state pension and other state benefits, but neither you or your company have to pay any national insurance contributions (NICs).
Any salary above £8,424 would result in employer’s NICs being payable at 13.8%.
Employees’ NICs would be payable above this amount at 12% up to a limit of £46,384. Above this amount the rate of employees’ NICs payable falls to 2%.
Your employer’s NICs liability can be set against the £3,000 employment allowance, if your company employs more than just you as the sole director and pays each of those additional employees more than £8,424.
Employing a family member can be a good way to spread the income from the business around the family, and use all available personal allowances and lower tax bands.
However, the wage paid to a family member must represent a market rate for the work performed – you shouldn’t pay your son a senior executive’s salary if he’s working on reception, for example.
The company must have sufficient reserves before the directors authorise a dividend to be paid.
If there are insufficient reserves available, any dividends paid may be re-categorised as loans to the recipients.
Each individual is entitled to an annual dividend allowance of £2,000. Dividends received up to this limit are taxed at 0%, while additional dividends are subject to dividend tax according to the tax band the income falls into:
Basic-rate taxpayer (up to £34,500) 7.5%
Higher-rate taxpayer (up to £150,000) 32.5%
Additional-rate taxpayer (more than £150,000) 38.1%
These tax bands can be expanded if you make pension contributions or gift aid donations out of net income.
Spreading dividend income among your family members can allow them to use their £2,000 dividend allowance, and pay no tax on that portion of their dividend income.
However, those family members need to first hold shares in the business which entitles them to receive the dividends.
You can give away shares to your spouse or civil partner with minimal tax implications, but seek advice before doing so.
To be effective for tax planning purposes the shares should carry a full quota of rights, including the right to vote, receive a variable dividend and share in the capital of the business on a winding up.
Shares given to employees can be subject to income tax as employment-related securities, but there’s a general exemption from that legislation for gifts made as part of a family relationship.
As an alternative to giving shares, family members could subscribe directly for new shares to be issued by the business.
Tyrrell Procter Chartered Accountants, Beaufort House, 113 Parson Street, Bristol, BS3 5QH
0117 907 7373