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Tax-efficient Ways to Extract Profit from your business

Part 3

We’re often asked by our clients how they can best extract profits from their company without falling foul of the dreaded Tax Man.

Completing company accounts isn’t and should never be just about ticking the compliance box for the company, it should also be about the owner’s aspirations.  That’s why during our regular reviews with our clients we look at where the business is, there the Director/Owner is, what they want to achieve and how we can help them reach those goals.

In this instalment we look at withdrawing funds through – Dividends.

I suppose we should first explain what a dividend is and what the difference is between that and a salary.

A dividend is a payment made by a limited company to its shareholders as compensation for supplying the company with capital.  There is no requirement for the shareholder to work in the company for them to receive a dividend.

Dividends can only be paid out from company profits after Corporation tax is paid and are made in accordance with the number and class of shares for the shareholder holds.  Not all shareholders hold the same number or classification of shares and this is contained within the articles of association.

The company directors are responsible for deciding on the maximum level of dividend payable to the shareholders even if they themselves are not shareholders.  The figure is based on the profit figures shown on the company’s annual accounts.  At this time the shareholders vote on whether to pay the recommended figure or smaller one.  The reason they may decide on a smaller one is so that the company can invest money in equipment or to use it as working capital.

There is no further tax deduction payable by the company as the dividend amount is only available after corporation tax is paid.  There is also no employer’ NI on dividends.  There are no VAT implications with regards to dividend payments.

When a dividend is declared the company must record the details in the company minutes.  It seems obvious but one thing to consider is that a dividend should only be paid to shareholders included in the company’s register of shareholders and those who have paid the full amount payable to the company for their shares.  The company must also prepare a dividend voucher to issue to each shareholder when the dividend is paid, even if they chose not to withdraw it from the company bank account.

A dividend is taxable income for the shareholder for which the tax is accounted for on the shareholders self-assessment tax return.  The 2020/21 dividend allowance is £2,000, this is a zero-rate band which means that the first £2,000 of any dividend received is taxed at a zero rate.

As a shareholder it is important that you understand how a dividend is taxed as the rate will depend on your other income sources.  There is no employees’ NI on dividends, however.

 Example 1

If you have no other income in the tax year, your personal allowance will cover some of the dividend and the next £2,000 is taxed at 0%.

Taxable income (£) Tax due (£)
Tax due (£)
Dividend 55,000
Personal allowance (12,500)
Taxable dividend 42,500
Income tax at 0% (on the first £2,000) 0
Income tax at 7.5%m (on the next £35,500) 2,622
On remaining £5,000 @ 32.5% 1,625
Tax payable 4,247

 

Example 2

If you are the sole shareholder and the total taxable profit made by the company is £50,000 and you have been paid £9,500 in salary in the tax year, how much dividend can you take if you decided to take all that is available?

Company’s tax position
2020/21 £
Before tax profits 50,000
Corporation tax payable @ 19% 9,500
Dividend available 40,500

 

Shareholder’s tax position
2020/21      £ Tax £
Salary received      9,500 0
Personal allowance (£12,500)      (9,500)
Dividend received      40,500
Unused personal allowance      (3,000)
Taxable dividend income      37,500
Dividend allowance (taxable at zero rate)      2,000 0
Balance taxable @ 7.5%      35,500 2663
Total tax paid 2663
Net income available to you 47,337

 

If you have not had this conversation with your accountant, we would be happy to have a FREE no obligation conversation with you, CONTACT US and we can arrange a video or telephone call at a convenient time for you.

 

Do you want to know how we can help you?

We would be happy to discuss your requirements and put the most appropriate package together for you.

 
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